Optimal Contract for the Principal-Agent Under Knightian Uncertainty

2020 ◽  
Vol 8 (4) ◽  
pp. 637-654
Author(s):  
Kun-Lun Wang ◽  
Chen Fei ◽  
Wei-Yin Fei
Keyword(s):  
Knightian Uncertainty ◽  
Principal Agent ◽  
Optimal Contract

Stock and Option Proportions in Executive Compensation

2011 ◽  
Vol 01 (01) ◽  
pp. 169-203 ◽  
Author(s):  
Phelim P. Boyle ◽  
Ranjini Jha ◽  
Shannon Kennedy ◽  
Weidong Tian
Keyword(s):  
Executive Compensation ◽  
Empirical Evidence ◽  
Risk Taking ◽  
Principal Agent ◽  
Optimal Contract ◽  
Efficient Mechanism ◽  
Opposite Conclusion

There is controversy about the relative merits of stock and options in executive compensation. Some observers contend that stock is a more efficient mechanism, while others reach the opposite conclusion. We focus on the manager's risk-taking incentives and derive an optimal compensation contract by using the concept of a comparable benchmark and imposing a volatility constraint in a principal-agent framework. We demonstrate a joint role for both stock and options in the optimal contract. We show that firms with higher volatility should use more options in compensating their executives and provide empirical evidence supporting this testable implication.

scholarly journals Experimental tests for gender effects in a principal-agent game

2019 ◽  
Vol 2 (1) ◽  
Author(s):  
Andrew B Whitford ◽  
Holona L Ochs
Keyword(s):  
Laboratory Test ◽  
Experimental Tests ◽  
Gender Effects ◽  
Principal Agent ◽  
Wage Labor ◽  
Optimal Contract ◽  
Men And Women ◽  
Perceived Trust ◽  
Labor Agreement ◽  
Bargaining Position

Traditional arguments against women as leaders suggest that women would not be extended the trust necessary for leadership and/or that women undermine their own bargaining position by extending too much trust to others. We examine data from a laboratory test in which pairs of subjects are given the task of negotiating a wage-labor agreement.  We first derive the optimal contract offer for principals and response by agents. We find that men and women do not reach different bargaining outcomes. We also find that women in authority are perceived as more trustworthy than men with authority, and women are no more or less trusting than men of their superiors or subordinates. The perceived trust is not rooted in differential wage terms but is based on the negotiation setting. Thus, women are likely to be extended the trust necessary to lead and are not likely to produce outcomes that are significantly different from men.

scholarly journals You Don’t Always Get What You Pay For: Bonuses, Perceived Income and Effort

2011 ◽  
Vol 12 (1) ◽  
pp. 1-10 ◽  
Author(s):  
Wendelin Schnedler
Keyword(s):  
Hazard Rate ◽  
Success Probability ◽  
Income Effect ◽  
Principal Agent ◽  
Marginal Effect ◽  
Optimal Contract ◽  
Incentive Effect ◽  
Probability Of Success ◽  
Practical Implications ◽  
Principal Agent Relationship

Abstract Consider a principal-agent relationship in which more effort by the agent raises the likelihood of success. This paper provides conditions such that no success bonus induces the agent to exert more effort and the optimal contract is independent of success. Moreover, success bonuses may even reduce effort and thus the probability of success. The reason is that bonuses increase the perceived income of the agent and can hence reduce his willingness to exert effort. This perceived income effect has to be weighed against the incentive effect of the bonus. The tradeoff is determined by the marginal effect of effort on the success probability in relation to this probability itself (success hazard-rate of effort). The paper also discusses practical implications of the finding.

Double-sided moral hazard, information screening and the optimal contract

2016 ◽  
Vol 6 (4) ◽  
pp. 404-431 ◽  
Author(s):  
Jin Xue ◽  
Yiwen Fei
Keyword(s):  
Venture Capital ◽  
Moral Hazard ◽  
Capital Investment ◽  
Principal Agent ◽  
Optimal Contract ◽  
Fixed Income ◽  
Content Type ◽  
Agent Model ◽  
Venture Capital Investment ◽  
Principal Agent Model

Purpose In the practice of venture capital investment, the venture capital will not only claim the share of the enterprise’s future output, but also a certain amount of fixed income. The purpose of this paper is to examine the optimal contract which blends the variable ownership income and the fixed income theoretically so as to provide a keen insight into the venture capital practice. Design/methodology/approach This paper establishes an extended principal-agent model and researches on the design of optimal contract dominated by venture capital with double-sided moral hazard and information screening. Findings By establishing theoretical models, the main findings are: first, high-quality enterprise tends to relinquish less ownership but give more fixed return to the venture capital as compensation in order to obtain the venture capital financing; second, low-quality enterprise is willing to relinquish more ownership but give less fixed return to the venture capital for financing; third, due to the existence of double-sided moral hazard, neither of the venture capital and the enterprise will exert their best effort. Originality/value This paper furthers the application of principal-agent model in the field of venture capital investment and researches on the optimal contract, considering double-sided moral hazard and adverse selection at the same time originally.

scholarly journals A Solvable Dynamic Principal-Agent Model with Linear Marginal Productivity

2018 ◽  
Vol 2018 ◽  
pp. 1-17 ◽  
Author(s):  
Bing Liu ◽  
Zheng Yin ◽  
Chong Lai
Keyword(s):  
Optimization Problem ◽  
Principal Agent ◽  
Optimal Contract ◽  
Marginal Productivity ◽  
Information Structures ◽  
Agent Model ◽  
Time Dynamic ◽  
Main Effect ◽  
Principal Agent Model ◽  
Hidden Actions

We study how to design an optimal contract which provides incentives for agent to put forth the desired effort in a continuous time dynamic moral hazard model with linear marginal productivity. Using exponential utility and linear production, three different information structures, full information, hidden actions and hidden savings, are considered in the principal-agent model. Applying the stochastic maximum principle, we solve the model explicitly, where the agent’s optimization problem becomes the principal’s problem of choosing an optimal contract. The explicit solutions to our model allow us to analyze the distortion of allocations. The main effect of hidden actions is a reduction of effort, but the a smaller effect is on the consumption allocation. In the hidden saving case, the consumption distortion almost vanishes but the effort distortion is expanded. In our setting, the agent’s optimal effort is also reduced with the decline of marginal productivity.

scholarly journals Asymmetric awareness and heterogeneous agents

2020 ◽  
Vol 32 (4) ◽  
pp. 461-484
Author(s):  
Antoine Dubus
Keyword(s):  
Moral Hazard ◽  
Heterogeneous Agents ◽  
Contract Design ◽  
The Other ◽  
Principal Agent ◽  
Optimal Contract ◽  
Jel Codes ◽  
Agent Model ◽  
Principal Agent Model

We consider a principal-agent model with moral-hazard and asymmetric awareness and show how the heterogeneity of agents on their aversion to effort affects contract design. We discuss the optimal contract adopted when a principal is aware of all the impacts of an agent’s action, while agents ignore some of them. When a principal faces two types of agents, where one type is more effort-averse than the other, the equilibrium contract is shaped by agent proportions: it pools the agents, separates them, or excludes the more effort-averse agents from the contract. When efforts are observable, all the agents remain unaware, while when efforts are hidden, a principal increases the awareness of the agents to a level commensurate with the nature of the contract. JEL Codes – D82; D83; D86

scholarly journals Binary Payment Schemes: Moral Hazard and Loss Aversion

2010 ◽  
Vol 100 (5) ◽  
pp. 2451-2477 ◽  
Author(s):  
Fabian Herweg ◽  
Daniel Müller ◽  
Philipp Weinschenk
Keyword(s):  
Moral Hazard ◽  
Expected Utility ◽  
Loss Aversion ◽  
Reference Point ◽  
Performance Measure ◽  
Principal Agent ◽  
Optimal Contract ◽  
Agent Model ◽  
Payment Schemes ◽  
Principal Agent Model

We modify the principal-agent model with moral hazard by assuming that the agent is expectation-based loss averse according to Kőoszegi and Rabin (2006, 2007). The optimal contract is a binary payment scheme even for a rich performance measure, where standard preferences predict a fully contingent contract. The logic is that, due to the stochastic reference point, increasing the number of different wages reduces the agent's expected utility without providing strong additional incentives. Moreover, for diminutive occurrence probabilities for all signals the agent is rewarded with the fixed bonus if his performance exceeds a certain threshold. (JEL D82, D86, J41, M52, M12)

scholarly journals PRINCIPAL-AGENT PREFERENCES IN IMPERFECT MARKET: THEORETICAL ANALYSIS ON MURABAHAH AND IJARAH

2019 ◽  
Vol 5 (1) ◽  
pp. 117-144
Author(s):  
Hechem Ajmi ◽  
Hassanuddeen Abdul Aziz ◽  
Salina Kassim ◽  
Walid Mansour
Keyword(s):  
Theoretical Analysis ◽  
Market Frictions ◽  
Principal Agent ◽  
Optimal Contract ◽  
Significant Information ◽  
Imperfect Market ◽  
High Shock ◽  
Optimal Values ◽  
Financial Arrangements

This paper aims to determine the optimal contract for the principal and the agentin imperfect market, when murabahah and ijarah are used. The financial contractingenforceability approach is employed to determine the contract that maximizes thevalue of the firm subject to agents’ constraints when the shock is low and high, andregarding market frictions. Furthermore, this approach allows us to assess the level ofmarket frictions that agents may bear in case of low shock and high shocks. Findingsreveal that the simulated values of the market frictions’ parameters for both contractsincrease when moving from the low shock to the high shock. Such evidence impliesthat the agent is more likely to cheat and hide significant information about the projectwhen the shock is high. As a response to this higher risk, the simulated values of theprofit margin parameters for the principal rise also when the shock is high in orderto compensate for the increase of market frictions and mitigate conflicts of interest.By comparing both contracts based on the simulated optimal values of the firm, it isnoticeable that the gap between both contracts is very tight, which can be attributedto their common debt-based financial arrangements. However, the results show thatijarah allows the principal and the agent to generate the highest value in case of lowshock and high shock, comparing to murabahah. Therefore, ijarah seems to be moreattractive for the principal and the agent than murabahah.

scholarly journals A Solvable Time-Inconsistent Principal-Agent Problem

2018 ◽  
Vol 2018 ◽  
pp. 1-15
Author(s):  
Chao Li ◽  
Zhijian Qiu
Keyword(s):  
Negative Impact ◽  
Time Inconsistency ◽  
Principal Agent ◽  
Optimal Contract ◽  
Dynamic Contract ◽  
Principal Agent Problem ◽  
Uncertain Factor ◽  
Time Inconsistent ◽  
The Impact ◽  
Optimal Reward

We consider the dynamic contract model with time inconsistency preference of principal-agent problem to study the influence of the time inconsistency preference on the optimal effort and the optimal reward mechanism. We show that when both the principal and the agent are time-consistent, the optimal effort and the optimal reward are the decreasing functions of the uncertain factor. And when the agent is time-inconsistent, the impatience of the agent has a negative impact on the optimal contract. The higher the discount rate of the agent is, the lower the efforts provided; agents tend to the timely enjoyment. In addition, when both the principal and the agent are time-inconsistent, in a special case, their impatience can offset the impact of uncertainty factor on the optimal contract, but, in turn, their impatience will affect the contract.

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