Discrete Time Dynamic Principal--Agent Models: Contratction Mapping Theorem and Computational Treatment
41 Pages Posted: 14 Apr 2016 Last revised: 8 Oct 2019
Date Written: November 14, 2016
We consider discrete time dynamic principal--agent problems with continuous choice sets and potentially multiple agents. We prove the existence of a unique solution for the principal's value function only assuming continuity of the functions and compactness of the choice sets. We do this by a contraction mapping theorem. Thus we also obtain a convergence result for the value function iteration. To numerically compute a solution for the problem, we have to solve a collection of static principal--agent problems at each iteration. This means that in the discrete time setting solving the static problem is the difficult part. If the agent's expected utility is a rational function of his action then we can transform the bi-level optimization problem into a standard nonlinear program. The final results of our solution method are numerical approximations of the policy and value functions for the dynamic principal--agent model. We illustrate our solution method by solving variations of two prominent social planning models from the economics literature.
Keywords: Optimal unemployment tax, principal-agent model, repeated moral hazard
JEL Classification: C63, D80, D82
Suggested Citation: Suggested Citation