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Contracting Theory with Coincidence of Interest

Duggan, John (1992) Contracting Theory with Coincidence of Interest. Social Science Working Paper, 805. California Institute of Technology , Pasadena, CA. (Unpublished)

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In the standard models of principal agent theory, the relationship between the principal and agent is adversarial in the sense that the objective of the agent is to maximize monetary income and minimize effort without regards for the objectives of the principal. In the real world, however, agents often have a personal stake in their contractual responsibilities. Furthermore, standard approaches to optimal contracting involve explicit monetary transfers, thereby excluding from analysis the case of non-profit agents. This paper presents a contracting model--the cooperative model--distinguished from standard models by the following three properties: first, the principal contracts with a non-profit agent for the provision of some commodity; second, the interests of the principal and agent coincide to the extent that their utilities are both increasing in the quality of the commodity provided; third, the using a suitable reformulation of the standard moral hazard variable, the optimal contract for the case of quasi-linear preferences has an extremely simple form. After the cooperative model is formalized, cost-plus and fixed price contracting are defined and compared, the form of the optimal contract is determined for the case of quasi-linear preferences, the suboptimality of cost-plus and fixed price contracting is demonstrated, and the possibility of decentralizing the optimal contract through a menu of linear contracts is explored. Finally, a standard model--the adversarial model--is presented for the purposes of comparison, along with a general model in which subsumes both models as special cases. Starting with the adversarial model and altering it in each of the three ways outlined above, it is possible to trace the ramifications of the assumptions underlying the cooperative model.

Item Type:Report or Paper (Working Paper)
Additional Information:Financial assistance from the Flight Projects Office of the Jet Propulsion Laboratory (JPL) of NASA to the Program on Organization Design (PrOD) is greatly appreciated. In addition, thanks are owed to Mark Fey, Morgan Kousser, John Ledyard, Charles Polk, and Dave Porter for helpful criticism and suggestions. They are, of course, not responsible for the end result of their comments.
Group:Social Science Working Papers
Funding AgencyGrant Number
Series Name:Social Science Working Paper
Issue or Number:805
Record Number:CaltechAUTHORS:20170829-132815681
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Usage Policy:No commercial reproduction, distribution, display or performance rights in this work are provided.
ID Code:80907
Deposited By: Jacquelyn Bussone
Deposited On:30 Aug 2017 17:51
Last Modified:03 Oct 2019 18:36

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