Relational Incentive Contracts and Performance Measurement
35 Pages Posted: 7 May 2018 Last revised: 19 Mar 2019
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Relational Incentive Contracts and Performance Measurement
Relational Incentive Contracts and Performance Measurement
Date Written: January 16, 2019
Abstract
This paper analyzes relational contracts under moral hazard. We first show that if the available information (signal) about effort satisfies a generalized monotone likelihood ratio property, then irrespective of whether the first-order approach (FOA) is valid or not, the optimal bonus scheme takes a simple form. The scheme rewards the agent a fixed bonus if his performance index xceeds a threshold, like the FOA contract of Levin (2003), but the threshold can be set differently. We next derive a sufficient and necessary condition for non-verifiable information to improve a relational contract. Our new informativeness criterion sheds light on the nature of an ideal performance measure in relational contracting.
Keywords: Relational contracts, non-verifiable performance measures, first-order approach,
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