Optimal linear contracts with heterogeneous agents

Armando Levy and Tomislav Vukina

European Review of Agricultural Economics, 2002, vol. 29, issue 2, 205-217

Abstract: This paper examines the class of linear contracts in a simple principal--agent model in which agents are heterogeneous in their abilities to perform a task for the principal. We show that in the absence of transaction costs, the optimal linear contract is a set of individualised contracts. The fact that individualised contracts are rarely observed may be explained by the presence of transaction costs. The equilibrium that emerges depends on the costs of screening relative to the heterogeneity in agents' abilities. In the monopsony case, the dynamic incentives of the agents preclude individualised contracts even if transaction costs are not significant. Copyright 2002, Oxford University Press.

Date: 2002
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European Review of Agricultural Economics is currently edited by Timothy Richards, Salvatore Di Falco, Céline Nauges and Vincenzina Caputo

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