Contracting with Externalities

51 Pages Posted: 8 Oct 1998

Multiple version iconThere are 2 versions of this paper

Date Written: July 1998


The paper studies inefficiencies arising in contracting between one principal and N agents when each agent's utility depends on all agents' trades with the principal. When the principal commits to publicly observed bilateral contracts, the distortion is due to the externalities on agents' reservation utilities. In contrast, when the principal's offers are privately observed, the distortion is due to the externalities arising at efficient trade profiles. When the principal can commit to an arbitrary mechanism conditioning each agent's trade on all agents' messages, she implements an efficient outcome, while threatening deviators with the harshest possible punishment. However, in the presence of noise that goes to zero slower than N goes to infinity, agents asymptotically become non-pivotal, which gives rise to inefficient outcomes.

JEL Classification: D81, D82

Suggested Citation

Segal, Ilya, Contracting with Externalities (July 1998). Available at SSRN: or

Ilya Segal (Contact Author)

Stanford University ( email )

Stanford, CA 94305
United States
650-724-4905 (Phone)
650-725-5702 (Fax)

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