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  3. American Economic Review
  4. June 2003
  5. Relational Incentive Contracts

Relational Incentive Contracts

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Abstract

Standard incentive theory models provide a rich framework for studying informational problems but assume that contracts can be perfectly enforced. This paper studies the design of self-enforced relational contracts. I show that optimal contracts often can take a simple stationary form, but that self-enforcement restricts promised compensation and affects incentive provision. With hidden information, it may be optimal for an agent to supply the same inefficient effort regardless of cost conditions. With moral hazard, optimal contracts involve just two levels of compensation. This is true even if performance measures are subjective, in which case optimal contracts terminate following poor performance.

Citation

Levin, Jonathan. 2003. "Relational Incentive Contracts ." American Economic Review, 93 (3): 835-857. DOI: 10.1257/000282803322157115

JEL Classification

  • D82 Asymmetric and Private Information; Mechanism Design
  • L14 Transactional Relationships; Contracts and Reputation; Networks
  • D23 Organizational Behavior; Transaction Costs; Property Rights