The Value of Informativeness for Contracting

Pierre Chaigneau, Alex Edmans and Daniel Gottlieb ()

No 20542, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: The informativeness principle demonstrates qualitative benefits to increasing signal precision. However, it is difficult to quantify these benefits -- and compare them against the costs of precision -- since we typically cannot solve for the optimal contract and analyze how it changes with informativeness. We consider a standard agency model with risk-neutrality and limited liability, where the optimal contract is a call option. The direct effect of reducing signal volatility is a fall in the value of the option, benefiting the principal. The indirect effect is a change in the agent's effort incentives. If the original option is sufficiently out-of-the-money, the agent can only beat the strike price if he exerts effort and there is a high noise realization. Thus, a fall in volatility reduces effort incentives. As the agency problem weakens, the gains from precision fall towards zero, potentially justifying pay-for-luck.

JEL-codes: D86 J33 (search for similar items in EconPapers)
Date: 2014-10
New Economics Papers: this item is included in nep-cta, nep-hrm and nep-mic
Note: CF LE LS
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

Downloads: (external link)
http://www.nber.org/papers/w20542.pdf (application/pdf)

Related works:
Working Paper: The Value of Informativeness for Contracting (2014)
Working Paper: The value of informativeness for contracting (2014)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:nbr:nberwo:20542

Ordering information: This working paper can be ordered from
http://www.nber.org/papers/w20542

Access Statistics for this paper

More papers in NBER Working Papers from National Bureau of Economic Research, Inc National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.. Contact information at EDIRC.
Bibliographic data for series maintained by ().