Essays on information gathering in principal-agent contracts
Khalil, Fahad Ahmed
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This dissertation is a collection of essays on principal-agent contracts under asymmetry of information. The papers investigate how the possibility of acquiring information influences contracts. The first essay analyzes the contract between a principal and an agent, when the principal can conduct an audit of the agent's cost of production. The principal can choose an audit policy after output is produced - but he cannot commit to an audit policy at the beginning. The probability of audit is a best reply to the agent's probability of misreporting given the contract. The interaction between the contract, the audit strategy and the reporting strategy is analyzed. The main result obtained is that, when the cost of production is high the optimal contract requires the agent to produce an amount greater than the output under full information. The principal audits randomly and truthful cost announcements cannot be induced with certainty. It is also shown that the principal audits with a higher probability when he cannot commit as compared to when he can. The second essay considers an effort monitoring problem. It analyzes the contract the principal will offer an agent when the monitoring strategy cannot be committed to. Given the contract, the monitoring strategy is a best reply to the agent's effort strategy. The interaction between the contract, the monitoring strategy and the effort strategy is analyzed. The source of the principal's gain from monitoring is explained. It is shown that the wage payments to the agent may be decreasing in the outcome of the agent's effort. The third essay endogenizes the amount of information the agent will rely on when deciding whether or not to accept the contract. By incurring an observation cost, the agent can observe the state of nature after the contract is offered. If he does so he will be able to turn it down whenever his payoff is negative. It is shown that the principal will always find it in his best interest to offer a contract such that the agent has no incentive to use his ability to observe the state of nature. Furthermore. an increase in the cost of observation is very valuable to the principal. The paper also looks at the case in which the principal is allowed to put several agents in competition for the contract. It is shown that, though the principal has monopoly power and can force the single agent to his reservation utility, having several agents compete for the contract increases the principal's payoff.
- Doctoral Dissertations