Optimal contracts when the players think different

Urmee Khan and Luca Rigotti
Authors registered in the RePEc Author Service: Martin Dumav

UC3M Working papers. Economics from Universidad Carlos III de Madrid. Departamento de Economía

Abstract: In a moral hazard model with heterogeneous beliefs, we show that the efficient risksharing contract does not result in a constant wage and the optimal first-best contract may not be increasing in output. When actions are unobservable, heterogeneity in beliefs implies that the monotone likelihood ratio ranking does not ensure that the wage scheme in the optimal contract is non-decreasing in output. This is because differences in beliefs may affect the incentive provision in a non-monotone way. The standard monotonicity result with common beliefs extends to belief heterogeneity when the agent is more optimistic than the principal. Yet, in the reverse case, the optimal contract can be non-monotone.

Keywords: Contracting; Heterogeneous; Beliefs; Monotone; Likelihood; Ratio; Moral; Hazard (search for similar items in EconPapers)
JEL-codes: D82 D86 M52 (search for similar items in EconPapers)
Date: 2023-10-03
New Economics Papers: this item is included in nep-cta, nep-hrm and nep-mic
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Persistent link: https://EconPapers.repec.org/RePEc:cte:werepe:38519

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