Incomplete Contracts in Dynamic Games

Bard Harstad

Discussion Papers from Northwestern University, Center for Mathematical Studies in Economics and Management Science

Abstract: I develop a dynamic model of costly private provision of public goods where agents can also invest in cost-reducing technologies. Despite the n+1 stocks in the model, the analysis is tractable and the (Markov perfect) equilibrium unique. The frame-work is used to derive optimal incomplete contracts in a dynamic setting. If the agents can contract on provision levels, but not on investments, they invest suboptimally little, particularly if the contract is short-term or close to its expiration date. To encourage sufficient investments, the optimal and equilibrium contract is more ambitious if it is short-lasting, and it is tougher to satisfy close to its expiration date. If renegotiation is possible, such a contract implements the first best. The results have important implications for how to design a climate treaty.

Keywords: Dynamic private provision of public goods; dynamic common-pool problems; dynamic hold-up problems; incomplete contracts; renegotiation design; climate change and climate agreements JEL Classification Numbers: D86; H87; Q54; F53 (search for similar items in EconPapers)
Date: 2010-07-06
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