On the ratchet effect with product market competition

Michele Bisceglia and Salvatore Piccolo
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Michele Bisceglia: TSE-R - Toulouse School of Economics - UT Capitole - Université Toulouse Capitole - UT - Université de Toulouse - EHESS - École des hautes études en sciences sociales - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement
Salvatore Piccolo: UniBg - Università degli Studi di Bergamo = University of Bergamo

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Abstract: We study a two-period industry where firms are run by agents privately informed about their (persistent) costs, and principals can only use spot contracts. We characterize novel semi-separating equilibria where principals randomize in one or both periods. These equilibria have the following implications for industry dynamics and firms' performance. First, despite some principals learning their agents' type early on, aggregate output need not increase over time: the inefficiencies generated by the adverse selection problem can be persistent over time in competitive environments. Second, a more severe adverse selection problem may result in higher market prices, thereby increasing principals' profits.

Keywords: Adverse selection; Managerial firms; Competing hierarchies; Ratchet effect; Spot contracts (search for similar items in EconPapers)
Date: 2025-02-18
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Published in RAND Journal of Economics, 2025, ⟨10.1111/1756-2171.12499⟩

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Persistent link: https://EconPapers.repec.org/RePEc:hal:journl:hal-04966902

DOI: 10.1111/1756-2171.12499

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