Contracting Under Ambiguity in Continuous Time

Jaeyoung Sung
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Jaeyoung Sung: Ajou University

Chapter Chapter 14 in Contract Theory: Discrete- and Continuous-Time Models, 2023, pp 225-257 from Springer

Abstract: Abstract We consider a continuous-time contracting model where the outcome process is a BM-based process subject to mean-volatility joint ambiguity uncertainties. Each contracting party with a maxmin utility chooses the distribution of the outcome from a family of probability measures which can be either singular or absolutely continuous with respect to each other. The outcome under ambiguity is described by two different processes: one is exante subjectively perceived, and the other is expost realized. As a result, the optimal contract contains two sharing rules: to share the outcome uncertainty and to share the volatility uncertainty of the outcome. We show that under the optimal contract, the agree-to-disagree issue disappears, as subjective perceptions of the two contracting individuals are symmetrized. We present a closed-form solution to a linear-quadratic case with comparative statics.

Date: 2023
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Persistent link: https://EconPapers.repec.org/RePEc:spr:sprchp:978-981-99-5487-2_14

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DOI: 10.1007/978-981-99-5487-2_14

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