The principal-agent problem with smooth ambiguity
The principal-agent problem with smooth ambiguity
We study a principal-agent model in which the (effort-dependent) realisation of output levels is ambiguous, and the agent is ambiguity averse (while the principal is ambiguity neutral). We show that introducing ambiguity aversion will lower profits if the action that the principal wants to implement is the most ambiguous one, while they may increase otherwise. Regarding the design of the optimal contract, we show that under ambiguity aversion the optimal incentive scheme may not be monotone even if a natural generalization of the monotone likelihood ratio property is satisfied, and illustrate how this fact could affect the design of contracts in an applied economic context. We also find that the individual rationality constraint need not bind in the presence of ambiguity aversion unless preferences satisfy constant absolute ambiguity aversion.
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Kellner, Christian
4e2ed069-76c7-4084-a353-f56ee03e2094
June 2017
Kellner, Christian
4e2ed069-76c7-4084-a353-f56ee03e2094
Kellner, Christian
(2017)
The principal-agent problem with smooth ambiguity.
Review of Economic Design, 21 (2), .
(doi:10.1007/s10058-017-0198-4).
Abstract
We study a principal-agent model in which the (effort-dependent) realisation of output levels is ambiguous, and the agent is ambiguity averse (while the principal is ambiguity neutral). We show that introducing ambiguity aversion will lower profits if the action that the principal wants to implement is the most ambiguous one, while they may increase otherwise. Regarding the design of the optimal contract, we show that under ambiguity aversion the optimal incentive scheme may not be monotone even if a natural generalization of the monotone likelihood ratio property is satisfied, and illustrate how this fact could affect the design of contracts in an applied economic context. We also find that the individual rationality constraint need not bind in the presence of ambiguity aversion unless preferences satisfy constant absolute ambiguity aversion.
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More information
Accepted/In Press date: 30 January 2017
e-pub ahead of print date: 11 February 2017
Published date: June 2017
Organisations:
Economics
Identifiers
Local EPrints ID: 405629
URI: http://eprints.soton.ac.uk/id/eprint/405629
ISSN: 1434-4742
PURE UUID: 9c162d3e-6e77-43c1-8010-740dfa4aae84
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Date deposited: 09 Feb 2017 16:42
Last modified: 16 Mar 2024 04:24
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