Dynamic contracts with moral hazard and adverse selection

Alex Gershkov*, Motty Perry

*Corresponding author for this work

Research output: Contribution to journalArticlepeer-review

16 Scopus citations

Abstract

We study a novel dynamic principal-agent setting with moral hazard and adverse selection (persistent as well as repeated). In the model, an agent whose skills are his private information faces a finite sequence of tasks, one after the other. Upon arrival of each task, the agent learns its level of difficulty and then chooses whether to accept or refuse each task in turn and how much effort to exert. Although his decision to accept or refuse a task is publicly known, the agent's effort level is his private information. We characterize optimal contracts and show that the per-period utility of the agent approaches his per-period utility when his skills are publicly known, as the discount factor and the time horizon increase.

Original languageAmerican English
Pages (from-to)268-306
Number of pages39
JournalReview of Economic Studies
Volume79
Issue number1
DOIs
StatePublished - 1 Jan 2012

Bibliographical note

Funding Information:
Acknowledgment. We are grateful to Bruno Biais and two anonymous referees for very useful comments. We wish to thank Michael Borns for his invaluable editorial work and Omer Ali for many useful comments. Both authors gratefully acknowledge financial support from the Israel Science Foundation throught grant 241/09. Motty Perry is grateful to ESRC for financial support through grant RES-000-22-3528 Alex Gershkov is grateful to the Falk Institute for financial support.

Keywords

  • Adverse Selection
  • Moral hazard

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