B02
Optimal Dynamic Contracting
Discussion Papers

Discussion Paper No. 183
September 18, 2019

The More the Merrier? On the Optimality of Market Size Restrictions

Author:

Colin von Negenborn (HU Berlin)

Abstract:

This paper provides a novel rationale for the regulation of market size when heterogeneous firms compete. A regulator seeks to maximize total welfare by choosing the number of firms allowed to enter the market, e.g. by issuing a certain number of licenses. Opening up the market for more firms has a two-fold effect: it increases competition and thus welfare, but at the same time, it also attracts more cost-intensive firms, driving down average production efficiency. The regulator hence faces a trade-off between raising beneficial competition and detrimental costs. If goods are sufficiently substitutable, the latter effect can outweigh the former. It is then optimal to restrict the market size, rationalizing a limit to competition. This result holds even in the absence of entry costs, search costs or increasing returns to scale, which previous literature required.

Keywords:

regulation; imperfect competition; oligopolies

JEL-Classification:

D43; L13; L51

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Discussion Paper No. 175
August 5, 2019

Speculative Trade and Market Newcomers

Author:

Klishchuk, Bogdan (HU Berlin)

Abstract:

Arguing that in the real world relatively optimistic inexperienced investors are prey for relatively pessimistic veteran traders, we formalize this intuitive conjecture as a proven proposition in a simple model. This agreement to disagree leads to a perpetual bubble, in which more experienced, but less optimistic, investors keep selling overpriced assets to less experienced traders. As in a fraction of the uniform-experience literature, lack of short-selling makes room for the success of such bubble schemes. This previous literature did not allow for persistent effects of experience on beliefs and, instead, relied on more direct assumptions of belief heterogeneity. Although we map experience into beliefs in a specific way, the intuition behind the perpetual bubble involves the above-mentioned disagreement patterns, not belief formation itself.

Keywords:

speculative trade; price bubble; experience; optimism; belief heterogeneity; non-bayesian learning; short-selling

JEL-Classification:

D08; D09; G01; G04

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Discussion Paper No. 142
February 23, 2019

Equilibria Under Knightian Price Uncertainty

Authors:

Beissner, Patrick (ANU)
Riedel, Frank (IMW Bielefeld University)

Abstract:

We study economies in which agents face Knightian uncertainty about state prices. Knightian uncertainty leads naturally to nonlinear expectations. We introduce a corresponding equilibrium concept with sublinear prices and prove that equilibria exist under weak conditions. In general, such equilibria lead to Pareto inefficient allocations; the equilibria coincide with Arrow-Debreu equilibria only if the values of net trades are ambiguity-free in the mean. In economies without aggregate uncertainty, inefficiencies are generic. We introduce a constrained efficiency concept, uncertainty-neutral efficiency, equilibrium allocations under price uncertainty are efficient in this constrained sense. Arrow-Debreu equilibria turn out to be non-robust with respect to the introduction of Knightian uncertainty.

Keywords:

JEL-Classification:

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Discussion Paper No. 129
December 20, 2018

Mean-Field Leader-Follower Games with Terminal State Constraint

Authors:

Fu, Guanxing (HU Berlin)
Horst, Ulrich (HU Berlin)

Abstract:

We analyze linear McKean-Vlasov forward-backward SDEs arising in leader-follower games with mean-field type control and terminal state constraints on the state process. We establish an existence and uniqueness of solutions result for such systems in time-weighted spaces as well as a convergence result of the solutions with respect to certain perturbations of the drivers of both the forward and the backward component. The general results are used to solve a novel single-player model of portfolio liquidation under market impact with expectations feedback as well as a novel Stackelberg game of optimal portfolio liquidation with asymmetrically informed players.

Keywords:

mean-field control; stackelberg game; mean-field game with a major player; portfolio liquidation

JEL-Classification:

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Discussion Paper No. 105
June 27, 2018

Aggregate Information and Organizational Structures

Authors:

Celik, Gorkem (ESSEC Business School)
Shin, Dongsoo (Santa Clara University)
Strausz, Roland (Humboldt Universität zu Berlin)

Abstract:

We study an organization with a top management (principal) and multiple subunits (agents) with private information that determine the organization's aggregate efficiency. Under centralization, eliciting the agents' private information may induce the principal to manipulate aggregate information, which obstructs an effective use of information for the organization. Under delegation, the principal concedes more information rent, but is able to use the agents' information more effectively. The trade-off between the organizational structures depends on the likelihood that the agents are efficient. Centralization is optimal when such likelihood is low. Delegation, by contrast, is optimal when it is high.

Keywords:

agency; aggregate information; organization design

JEL-Classification:

D82;D86

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Discussion Paper No. 102
June 25, 2018

Net Neutrality, Prioritization and the Impact of Content Delivery Networks

Authors:

Baake, Pio (DIW Berlin)
Sudaric, Slobodan (HU Berlin)

Abstract:

We analyze competition between Internet Service Providers (ISPs) where consumers demand heterogeneous content within two Quality-of-Service (QoS) regimes, Net Neutrality and Paid Prioritization, and show that paid prioritization increases the static efficiency compared to a neutral network. We also consider paid prioritization intermediated by Content Delivery Networks (CDNs). While the use of CDNs is welfare neutral, it results in higher consumer prices for internet access. Regarding incentives to invest in network capacity we show that discriminatory regimes lead to higher incentives than the neutral regime as long as capacity is scarce, while investment is highest in the presence of CDNs.

Keywords:

content delivery network; investment; net neutrality; prioritization

JEL-Classification:

L13;L51; L96

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Discussion Paper No. 100
June 7, 2018

Sweet Lemons: Mitigating Collusion in Organizations

Authors:

Pollrich, Martin (University of Bonn)
von Negenborn, Colin (HU Berlin)

Abstract:

This paper shows that the possibility of collusion between an agent and a supervisor imposes no restrictions on the set of implementable social choice functions (SCF) and associated payoff vectors. Any SCF and any payoff profile that are implementable if the supervisor′s information was public is also implementable when this information is private and collusion is possible. To implement a given SCF we propose a one-sided mechanism that endogenously creates private information for the supervisor vis-à-vis the agent, and conditions both players′ payoffs on this endogenous information. We show that in such a mechanism all collusive side-bargaining fails, similar to the trade failure in Akerlof′s (1970) car market and in models of bilateral trade.

Keywords:

mechanism design; collusion; asymmetric information; correlation

JEL-Classification:

D82; D83; L51

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Discussion Paper No. 98
May 29, 2018

Persuasion Against Self-Control Problems

Author:

von Wangenheim, Jonas (Humboldt University Berlin)

Abstract:

I derive a social planner's optimal information design in an environment with quasi-hyperbolic discounting consumers without commitment. Consumption induces instantaneous utility, but unknown delayed cost. Consumers may or may not acquire additional costless information on the cost parameter. The planner's optimal signal can be interpreted as an incentive compatible consumption recommendation whenever the cost parameter is below some cut-off. Welfare strictly exceeds the one under full information. I characterize distributional conditions under which welfare attains first best.

Keywords:

bayesian persuasion; present bias; hyperbolic discounting; rational inattention

JEL-Classification:

D01; D18; D62; D82

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Discussion Paper No. 94
April 24, 2018

Of Restarts and Shutdowns: Dynamic Contracts with Unequal Discounting

Authors:

Krasikov, Ilia (Penn State University;)
Lamba, Rohit (Penn State University)
Mettral, Thomas (HU Berlin)

Abstract:

A large supplier (principal) contracts with a small firm (agent) to repeatedly provide working capital in return for payments. The total factor productivity of the agent is private and follows a Markov process. Moreover, the agent is less patient than the principal. We solve for the optimal contract in this environment. Distortions are pervasive and efficiency unattainable. The optimal contract is characterized by two key properties: restart and shutdown, which capture various aspects of contracts offered in the marketplace. The optimal distortions are completely pinned down by the number of low TFP shocks since the last high shock. Once a high shock arrives, the contract loses memory and repeats the same cycle, we call this endogenous resetting feature restart. If ex ante agency frictions are high, the principal commits to not serving the low type, we call this shutdown. The principal prefers a patient agent if the interim agency friction, as measured by the persistence of the private information is large, and she prefers an impatient agent if it is small. Finally, when global incentive constraints bind, we (i) provide the complete recursive solution, and (ii) characterize a simpler incentive compatible contract that is approximately optimal.

Keywords:

JEL-Classification:

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Discussion Paper No. 93
April 24, 2018

Deterministic versus Stochastic Contracts in a Dynamic Principal-Agent Model

Author:

Mettral, Thomas (HU Berlin)

Abstract:

I show that deterministic dynamic contracts between a principal and an agent are always at least as profitable to the principal as stochastic ones, if the so-called first-order approach in dynamic mechanism design is satisfied. The principal commits, while the agent's type evolution follows a Markov process. My results demonstrate, even when allowing for potential correlation of stochastic contracts across periods that the usual restriction in the literature to deterministic contracts is admissible, as long as the first-order approach is valid.

Keywords:

contract theory; principal-agent theory; dynamic contracting

JEL-Classification:

D82; D86

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