Abstract

http://ssrn.com/abstract=1251023
 
 

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On Reputation: A Microfoundation of Contract Enforcement and Price Rigidity


Ernst Fehr


University of Zurich - Department of Economics

Martin Brown


University of St. Gallen - Swiss Institute of Banking and Finance

Christian Zehnder


University of Lausanne


IZA Discussion Paper No. 3655

Abstract:     
We study the impact of reputational incentives in markets characterized by moral hazard problems. Social preferences have been shown to enhance contract enforcement in these markets, while at the same time generating considerable wage and price rigidity. Reputation powerfully amplifies the positive effects of social preferences on contract enforcement by increasing contract efficiency substantially. This effect is, however, associated with a considerable bilateralisation of market interactions, suggesting that it may aggravate price rigidities. Surprisingly, reputation in fact weakens the wage and price rigidities arising from social preferences. Thus, in markets characterized by moral hazard, reputational incentives unambiguously increase mutually beneficial exchanges, reduce rents, and render markets more responsive to supply and demand shocks.

Number of Pages in PDF File: 33

Keywords: wage rigidity, price rigidity, relational contracts, reciprocity, reputation

JEL Classification: D82, J3, J41, E24, C9

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Date posted: August 27, 2008  

Suggested Citation

Fehr, Ernst and Brown, Martin and Zehnder, Christian, On Reputation: A Microfoundation of Contract Enforcement and Price Rigidity. IZA Discussion Paper No. 3655. Available at SSRN: http://ssrn.com/abstract=1251023 or http://dx.doi.org/10.1111/j.0042-7092.2007.00700.x

Contact Information

Ernst Fehr (Contact Author)
University of Zurich - Department of Economics ( email )
Blümlisalpstrasse 10
Zuerich, 8006
Switzerland
+41 1 634 3709 (Phone)
+41 1 634 4907 (Fax)
Martin Brown
University of St. Gallen - Swiss Institute of Banking and Finance ( email )
Rosenbergstrasse 52
St. Gallen, CH-9000
Switzerland
Christian Zehnder
University of Lausanne ( email )
Lausanne, CH-1015
Switzerland
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