Contracting with Externalities

Ilya Segal.

No 97-259, Economics Working Papers from University of California at Berkeley

Abstract: The paper studies inefficiencies arising in contracting between one principal and N agents when the utility of each agent depends on all agents' trades with the principal. When the principal commits to a set of publicly observable bilateral contract offers, the arising inefficiency is due entirely to the externalities imposed on non-signers. In contrast, when the principal's offers are privately observed, the distortion is due to the externalities given agents' equilibrium trades. Comparison of the two externalities determines the relative efficiency of the two contracting regimes. In both cases, we show that when N is large, each agent can be treated as non-pivotal, provided that appropriate continuity assumptions are satisfied.

Date: 1997-12-01
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