Early versus Late Effort in Dynamic Agencies with Unverifiable Information

BuR Business Research Journal, Vol. 1, No. 2, December 2008

23 Pages Posted: 21 Jan 2009

Date Written: January 20, 2009

Abstract

In this paper we analyze a dynamic agency problem where contracting parties do not know the agent's future productivity at the beginning of the relationship. We consider a two-period model where both the agent and the principal observe the agent's second-period productivity at the end of the first period. This observation is assumed to be non-verifiable information. We compare long-term contracts with short-term contracts with respect to their suitability to motivate effort in both periods. On the one hand, short-term contracts allow for a better fine-tuning of second-period incentives as they can be aligned with the agent's second-period productivity. On the other hand, in short-term contracts first-period effort incentives might be distorted as contracts have to be sequentially optimal. Hence, the difference between long-term and short-term contracts is characterized by a trade-off between inducing effort in the first and in the second period. We analyze the determinants of this trade-off and demonstrate its implications for performance measurement and information system design.

Keywords: dynamic agency problem, limited commitment, unverifiable information, performance measurement

Suggested Citation

Schöndube, Jens Robert, Early versus Late Effort in Dynamic Agencies with Unverifiable Information (January 20, 2009). BuR Business Research Journal, Vol. 1, No. 2, December 2008, Available at SSRN: https://ssrn.com/abstract=1330336

Jens Robert Schöndube (Contact Author)

Leibniz Universität Hannover ( email )

30167
Germany

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