transaction costs in the theory of unemployment this paper addresses the problem of accounting theoretically for the persistence of large scale unemployment it briefly reviews some of the well known shortcomings of the keynesian account based upon sticky wages and prices and upon robert clower s 1965 concept of effective demand arguing that these shortcomings can be seen as a failure explicitly to integrate transaction costs into the theory of unemployment the main constructive contribution of the paper is an example of a simple macro model along the lines of robert barro and herschel grossman 1971 in which transaction costs are made explicit an essential part of this example is an externality of the sort suggested by peter diamond 1982 the example provides an account of persistent unemployment with many keynesian features yet without some of the keynesian shortcomings in particular it assumes perfect wage and price flexibility

two remarks on the property rights literature we first point out that the recent property rights literature is based on three assumptions 1 that contracts are always subject to renegotiation 2 that the exercise of a property right confers a private benefit and 3 that parties are risk neutral building on hart moore 1999 we provide conditions under which an optimal contract consists of nothing more than an assignment of property rights we also examine the robustness of some of the literature s standard predictions about asset ownership to the introduction of mechanisms for eliciting parties ex post willingness to pay for the assets such as options or financial markets to illustrate the issue we revisit the hart moore 1990 proposition that joint ownership is suboptimal and argue that ownership by a single party is dominated by joint ownership with put options

bargaining with imperfect enforcement the game theoretic bargaining literature insists on a noncooperative bargaining procedure but implicitly assumes cooperative implementation of agreements in reality courts cannot implement agreements costlessly and parties often prefer to use noncooperative implementation we present a bargaining model which incorporates the idea that agreements may be enforced noncooperatively we show that this has a substantial impact in limiting the inequality of agreements and results in a nonmonotonicity of the discount rate the model also explains why some parties may have incentives to deliberately write incomplete contracts as a way to enhance their bargaining power

delegation and incentives this article analyzes the relation between authority and incentives it extends the standard principal agent model by a project selection stage in which the principal can either delegate the choice of project to the agent or keep the authority the agent s subsequent choice of effort depends both on monetary incentives and the selected project we find that the consideration of effort incentives makes the principal less likely to delegate the authority over projects to the agent in fact if the agent is protected by limited liability delegation is never optimal

unforeseen contingencies and incomplete contracts we scrutinize the conceptual framework commonly used in the incomplete contract literature this literature usually assumes that contractual incompleteness is due to the transaction costs of describing or of even foreseeing the possible states of nature in advance we argue however that such transaction costs need not interfere with optimal contracting i e transaction costs need not be relevant provided that agents can probabilistically forecast their possible future payoffs even if other aspects of the state of the nature cannot be forecast in other words all that is required for optimality is that agents be able to perform dynamic programming an assumption always invoked by the incomplete contract literature the foregoing optimality result holds very generally provided that parties can commit themselves not to renegotiate moreover we point out that renegotiation may be hard to reconcile with a framework that otherwise presumes perfect rationality however even if renegotiation is allowed the result still remains valid provided that parties are risk averse

installed base and compatibility innovation product preannouncements and predation a good is often more valuable to any user the more others use compatible goods the authors show that this effect may inhibit innovation if an installed base exists and transition to a new standard must be gradual early adopters bear a disproportionate share of transient incompatibility costs this can produce excess inertia the installed base however is stranded if the new standard is adopted this may create excess momentum these dynamic effects have strategic implications temporary price cutting can permanently prevent entry and product preannouncements can be critical in innovation these strategic actions have ambiguous welfare effects

authority and incentives in organizations the paper analyzes the choice of organizational structure as solution to the trade off between controlling behavior based on authority rights and minimizing costs for implementing high efforts the analysis includes the owner of a firm a top manager and two division heads if it is more expensive to incentivize the division heads the owner will prefer full delegation of authority to them to replace their high incentive pay by incentives based on private benefits of control in that situation decentralization is optimal given that selfish behavior is more important than cooperation for maximizing returns but concentrated delegation of full authority to a single division head is optimal for cooperation being crucial if however incentivizing the division heads is clearly less expensive than creating incentives for the top manager the owner will choose centralization given that cooperation is the dominating issue but partial delegation if selfish behavior is crucial

demand disturbances and aggregate fluctuations the implications of near rationality the paper investigates some properties of near rational models of the cycle examining two types of framework in the first an otherwise classical competitive economy is shown to respond to demand disturbances when some firms follow a near rational hiring policy in the second model a dynamic setting is addressed and a criterion termed stochastic near rationality is employed simulation results are consistent with recent empirical findings and suggest that further quantitative evaluation is merited copyright 1987 by royal economic society

renegotiation design with unverifiable information this paper considers a buyer seller relationship with observable but unverifiable investments and or random utility parameters in such situations it is known that contract renegotiation may prevent the implementation of first best outcomes in this paper we show however that efficient investments and optimal risk sharing can typically be achieved provided the initial contract is able to monitor the ex post renegotiation process specifically we focus on the following two features of renegotiation design first default options in case renegotiation breaks down second the allocation of all bargaining power to either contracting party moreover we show that these two features can be obtained in standard rubinstein bargaining games through contractual provisions such as specific performance clauses and penalties for delay or equivalently financial hostages refundable without interest

renegotiation design and contract solutions to the hold up problem abstract this paper surveys the literature on contractual solutions to the hold up problem which has addressed the issue of how to design the optimal contractual arrangement to achieve efficient investments in the presence of contract incompleteness although scholars have argued that renegotiation design is a necessary condition to avoid the hold up problem some recent papers have seriously questioned this condition we mainly show that renegotiation design remains a necessary condition to implement efficient investments

a theory of credibility this paper presents models in which one agent must decide whether to trust another whose motives are uncertain reliability can only be communicated through actions in this context it pays for people to build a reputation based on reliable behaviour someone becomes credible by consistently providing accurate and valuable information or by performing useful services the theory provides a justification for long term arrangements without binding contracts it also describes those situations where it pays an agent to cash in on his reputation many decisions depend on trusting someone consumers must decide whether to believe advertisements banks need to judge the reliability of loan applicants and employers must decide how much responsibility to delegate to their employees this paper attempts to model situations that arise when someone is uncertain about whether to trust the people he deals with in this context reputations for reliability are valuable an agent becomes credible by consistently providing accurate valuable information or by always acting responsibly i analyse a series of simple abstract models of information transmission in the basic model there are two agents the sender s and the receiver r who are to play the game a known finite number of times at each stage both players learn the value of a parameter measuring the importance of that period s play of the game that is the value of making a correct decision and s obtains payoff relevant information s then sends a signal to r who makes a decision that affects the welfare of both players after both players learn the consequences of r s decision the process repeats at each stage r must decide what action to take in order to do that he must assess the credibility of s the difficulty arises because r is uncertain about s s preferences when play begins i model this by assuming that with positive probability s has identical preferences to r s is a friend and with positive probability s has completely opposed preferences to r s is an enemy this uncertainty creates a trade off for enemy senders at each stage providing honest information enhances s s reputation but only at the expense of foregoing an opportunity for immediate gain by duping r the possibility that s is a friend lends credibility to what he says but this credibility may also be exploited by an enemy s the principal equilibrium has the following form in the basic model where s has no control over the importance of a given play s typically conveys accurate information for the first several periods r raises the probability he places on s being friendly after receiving accurate information if he believes that an enemy would have lied to him with positive probability the more important the information the more likely an enemy will attempt to deceive r an enemy will eventually take advantage of r by misleading him when this happens the sender loses all opportunities for deception in the future i

reputation and imperfect information abstract a common observation in the informal literature of economics and elsewhere is that is multistage games players may seek early in the game to acquire a reputation for being tough or benevolent or something else but this phenomenon is not observed in some formal game theoretic analyses of finite games such as selten s finitely repeated chain store game or in the finitely repeated prisoners dilemma we reexamine selten s model adding to it a small amount of imperfect or incomplete information about players payoffs and we find that this addition is sufficient to give rise to the reputation effect that one intuitively expects

predetermined prices and the persistent effects of money on output this note illustrates a model of predetermined pricing where firms set a fixed schedule of nominal prices at the time of price readjustment based on the work of fischer 1977 this contrasts with the model of fixed pricing the specification underlying most recent dynamic sticky price models it is well known that predetermined pricing cannot generate substantial persistence in the real effects of monetary shocks when prices are set via fixed duration contracts unless the contracts are of long duration however we show that with a probabilistic model of price adjustment a predetermined pricing specification can produce almost as much persistence as the more conventional model of fixed prices without the assumption of long average contract duration

nash equilibrium and welfare optimality if is a set of social alternatives a social choice rule scr assigns a subset of a to each potential profile of individuals preferences over a where the subset is interpreted as the set of welfare optima a game form or mechanism implements the social choice rule if for any potential profile of preferences 1 any welfare optimum can arise as a nash equilibrium of the game form implying in particular that a nash equilibrium exists and 2 all nash equilibria are welfare optimal the main result of this paper establishes that any scr that satisfies two properties monotonicity and no veto power can be implemented by a game form if there are three or more individuals the proof is constructive

on the design of hierarchies coordination versus specialization we consider an economy that has to decide how assets are to be used agents have ideas but these ideas conflict we suppose that decision making authority is determined by hierarchy each asset ha

after the big bang obstacles to the emergence of the rule of law in post communist societies when russia launched mass privatization it was widely believed that it would create a powerful constituency for the rule of law that didn t happen we present a dynamic equilibrium model of the political demand for the rule of law and show that beneficiaries of mass privatization may fail to demand the rule of law even if it is the pareto efficient rule of the game the reason is that uncertainty about the legal regime can lead to asset stripping and stripping can give agents an interest in prolonging the absence of the rule of law this abstract was borrowed from another version of this item

reputation and discretion in financial contracting the authors explain the use of legally unenforceable discretionary financial contracts in circumstances where legally enforceable contracts are feasible a discretionary contract allows a contracting party to choose whether or not to honor the contract it is shown that such a contract liquefies reputational capital by permitting it to be depreciated in exchange for the preservation of financial capital and information reusability in financially impaired states in addition discretionary contracts foster the development of reputation this explains discretion among highly confident letters holding company relationships mutual fund contracts bank loan commitments and other financial and nonfinancial contracts copyright 1993 by american economic association

on partial contracting this paper investigates contracting situations where giving away some control rights enhances both the donor s and the receiver s incentives to cooperate in the future we define a partial contracting framework with nonverifiable actions for which either control is contractible contractible control actions or the right to transfer control ex post to another party is contractible transferable control actions under incomplete information when control over particular actions is transferable but not contractible it can be optimal to give one party the right to transfer control over a particular action to the other party in order for that party to build a reputation regarding her willingness to cooperate in the future c 2002 elsevier science b v all rights reserved

complexity and renegotiation a foundation for incomplete contracts the paper considers a hold up model where only one of n future trading opportunities will prove to be efficient and where ex post renegotiation of the ex ante contract cannot be prevented as the environment becomes more complex n the outcome under any message contingent long term contract converges to that of the incomplete contracting model where trade is contractible ex post but not ex ante when trades are costly to describe both ex ante and ex post the incomplete contracting result is extended to a broader class of environments

technology adoption in the presence of network externalities we analyze technology adoption in industries where network externalities are significant the pattern of adoption depends on whether technologies are sponsored a sponsor is an entity that has property rights to the technology and hence is willing to make investments to promote it key findings include the following 1 compatibility tends to be undersupplied by the market but excessive standardization can occur 2 in the absence of sponsors the technology superior today has a strategic advantage and is likely to dominate the market 3 when one of two rival technologies is sponsored that technology has a strategic advantage and may be adopted even if it is inferior 4 when two competing technologies both are sponsored the technology that will be superior tomorrow has a strategic advantage

the role of altruism in economic interaction abstract this paper considers environments in which the population consists of a mix of altruists and egoists and asks under what situations do altruists have a disproportionately large effect on equilibrium and under what situations is it the egoists we begin by presenting a general framework for answering this question we then apply the framework to the analysis of three economic environments 1 the classic problem referred to as the prisoner s dilemma 2 a world where agents decide whether or not to pollute the environment and 3 a world where agents decide whether or not to donate blood

determinants of bank cost efficiency in transition economies evidence for latin america central and eastern europe and south east asia in this study we adopt wang s 2002 heteroscedastic stochastic frontier model which allows us to investigate bank cost efficiency and to measure the marginal effects of some variables on both the level and the variability of inefficiency in recent years the financial crisis has significantly affected the banking systems of the transition countries hence the efficiency is of major importance for the stability of the banks regarding the determinants of efficiency we find evidence that banks that follow a more cautious strategy characterized by lower risk appetite and average expectations on profitability have higher cost efficiency we also find that traditional deposit taking and loan making still remain the most efficient activity of the banks additionally the results showed that a higher gross domestic product growth rate implies an increase in the inefficiency level indicating an unsustainable bank management behaviour which in periods of economic growth adopts policies that can generate

subgame perfect implementation this paper examines the use of stage mechanisms in implementation problems and provides a partial characterization of the set of subgam e perfect implementable choice rules it is shown that in many economic environments virtually an y choice rule can be implemented to illustrate the power of this approach the paper discusses a number of models in which it is possible to implement the first best although it wouldn t have been possible to do so without using stage mechanisms the diversity of these models suggests that subgame perfect implementation may find wide application copyright 1988 by the econometric society

predation reputation and entry deterrence abstract economists often argue that predatory practices are irrational since there exist cheaper or more certain means to gain or maintain a monopoly our gametheoretic equilibrium analysis suggests that if a firm is threatened by several potential entrants then predation may be rational against early entrants even if it is costly when viewed in isolation because it yields a reputation which deters other entrants asymmetric information plays a crucial role in our analysis since it provides the rationale for entrants to base their expectations of the firm s future behavior on its past actions the analysis also suggests methods to treat general reputational phenomena

communication in bargaining over decision rights abstract this paper develops a model of bargaining over decision rights between an uninformed principal and an informed but self interested agent we introduce two different bargaining mechanisms tacit and explicit bargaining in tacit bargaining an uninformed principal makes a take it or leave it price offer to the agent who then decides whether to accept or reject the offer in the equilibrium of the game the principal inefficiently screens out some agent types so that the agent s private information cannot be fully utilized when the decision is made in explicit bargaining in which parties can communicate explicitly via cheap talk before tacit bargaining however an equilibrium with no such inefficient screening exists even when the conflict of interest is arbitrarily large we also follow a mechanism design approach showing that under certain conditions explicit bargaining is an optimal bargaining mechanism that maximizes the joint surplus of the parties

the social selection of flexible and rigid agents people differ in how they respond to their environment some individuals treat each situation as unique and tailor their behavior accordingly while others respond in the same manner regardless of the situation the authors objective is to explore how social systems select from such a heterogeneous population a class of simple hierarchical systems is considered which encompasses some features of corporations and electoral systems a selection process operates on this population which results in successful agents going on to compete against equally successful agents for further advancement the author characterizes the population dynamics and the type of agent that ultimately dominates copyright 1998 by american economic association

public versus private ownership quantity contracts and the allocation of investment tasks abstract the government wants a certain good or service to be provided should the required assets be publicly or privately owned or should a partnership be formed building on the incomplete contracting approach we argue that the initially specified quantity of an ex ante describable basic good can have important effects on investment incentives which has been neglected in the literature so far we also study how the tasks of investing in quality improvements and cost reductions should be assigned we show how the optimal contracts and governance structures depend on the exogenous parameters of the model such as the nature of the investments and the parties bargaining powers

monetary non neutrality in a multisector menu cost model empirical evidence suggests that as much as one third of the u s business cycle is due to nominal shocks we calibrate a multisector menu cost model using new evidence on the cross sectional distribution of the frequency and size of price changes in the u s economy we augment the model to incorporate intermediate inputs we show that the introduction of heterogeneity in the frequency of price change triples the degree of monetary non neutrality generated by the model we furthermore show that the introduction of intermediate inputs raises the degree of monetary non neutrality by another factor of three without adversely affecting the model s ability to match the large average size of price changes a single sector model with a frequency of price change equal to the median rather than the mean generates monetary non neutrality similar to that in our multisector model our multisector model with intermediate inputs generates variation in real output in response to calibrated aggregate nominal shocks that can account for roughly 23 of the u s business cycle

efficiency wage models of unemployment keynesian economists hold it to be self evident that business cycles are characterized by involuntary unemployment but construction of a model of the cycle with involuntary unemployment faces the obvious difficulty of explaining why the labor market does not clear involuntarily unemployed people by definition want to work at less than the going wage rate why don t firms cut wages thereby increasing profits

bounded rationality and strategic complementarity in a macroeconomic model policy effects persistence and multipliers motivated by recent developments in the bounded rationality and strategic complementarity literatures we examine an intentionally simple and stylized aggregative economic model when the assumptions of fully rational expectations and no strategic interactions are relaxed we show that small deviations from rational expectations taken alone lead only to small deviations from classical policy ineffectiveness but that the situation can change dramatically when strategic complementarity is introduced strategic complementarity magnifies the effects of even small departures from rational expectations producing equilibria with policy effectiveness output persistence and multiplier effects

the theory of moral hazard and unobservable behaviour part i principal agent models are studied in which outcomes conditional on the agent s action are uncertain and the agent s behaviour therefore unobservable for a model with bounded agent s utility conditions are given under which the first best equilibrium can be approximated arbitrarily closely by contracts relating payment to observable outcomes for general models it is shown that the solution may not always be obtained by using the agent s first order conditions as constraint general conditions of lagrangean type are given for problems in which contracts are finite dimensional 1 the moral hazard situation

incomplete contracts specific investments and risk sharing an optimal contract design problem is considered contracts which are incomplete and simple are used to investigate the extent to which constrained revisions can mitigate inefficiencies resulting from contractual incompleteness an optimal contract is characterized in two cases first when a contract is being used to facilitate trade between two risk neutral parties who must make relationship specific investments it is possible to implement the first best by a simple contract second when a contract is being used to share risk it is generally not possible to implement the first best when one party is risk neutral however it is possible to implement the first best by assigning all the ex post decision rights to that party

responders versus non responders a new perspective on heterogeneity this paper considers the implications of a particular type of heterogeneity one which characterizes a large number of economic environments but that has not received any systematic treatment in the literature the authors refer to this heterogeneity as responders versus nonresponders the paper begins by providing a general framework for the analysis of environments characterized by this heterogeneity and then shows how this framework can be used to help understand a wide variety of economic environments particular applications considered are near rationality network externalities and models of reputation copyright 1991 by royal economic society

reputation effects and the limits of contracting a study of the indian software industry this paper examines evidence of the role that reputation plays in determining contractual outcomes we conduct an empirical analysis of the indian customized software industry using a data set we collected containing detailed information on 230 projects carried out by 125 software firms we propose a model ofthe industry where reputation determines contractual outcomes the evidence supports the view that reputation matters ex ante contracts as well as the outcome after ex post renegotiation vary with firms characteristics plausibly associated with reputation this holds after controlling for project client and firm characteristics

strategic interaction among heterogeneous price setters in an estimated dsge model abstract we consider a dynamic stochastic general equilibrium model dsge in which firms follow one of four price setting regimes sticky prices sticky information rule of thumb or full information flexible prices the parameters of the model including the fraction of each type of firm are estimated by matching the moments of the observed variables of the model to those found in the data we find that sticky price firms and sticky information firms jointly account for over 80 of firms in the model we compare the performance of our hybrid model to pure sticky price and sticky information models along various dimensions including monetary policy implications

a theory of debt and equity diversity of securities and manager shareholder congruence this paper shows how the optimal financial structure of a firm complements incentive schemes to discipline managers and how the securities return streams determine the claim holders incentives to intervene in management the theory rationalizes 1 the multipucity of securities 2 the observed correlation between return streams and control rights of securities and 3 the partial congruence between managerial and equity holder preferences over policy choices and monetary rewards as well as the low level of interference of equity in management the theory also offers new prospects for a reappraisal of the earlier corporate finance literature

competing for ownership we study how the internal organization of firms specifically the allocation of ownership of assets and the distribution of profi ta mong the firm s managers is determined in a competitive market we ask how scarcity of assets skills or liquidity in the market translates into ownership and control allocations within organizations firms will be more integrated when the terms of trade are more favorable to the short side of the market when liquidity is unequally distributed among existing firms and when there is a positive uniform shock to productivity the model identifies a price like mechanism whereby local liquidity or productivity shocks propagate and lead to widespread organizational restructuring

on indescribable contingencies and incomplete contracts abstract i examine the theoretical foundations underlying the incomplete contracts literature a common justification for the assumption that contracts are not fully contingent on the state of nature is to point out that some aspects of the state may be unforeseen or indescribable to the contracting partners at the time the contract is written i argue however that as long as risk averse parties can foresee the probabilities of their possible payoffs then the fact that they cannot describe the possible physical states does not matter even with renegotiation the parties can attain the same welfare as when full description is possible