Moral Hazard and the Property Rights Approach to the Theory of the Firm

13 Pages Posted: 30 Jul 2019

See all articles by Patrick W. Schmitz

Patrick W. Schmitz

University of Cologne; Centre for Economic Policy Research (CEPR)

Date Written: July 2019


In the Grossman-Hart-Moore property rights theory, there are no frictions ex post (i.e., after non-contractible investments have been sunk). In contrast, in transaction cost economics ex-post frictions play a central role. In this note, we bring the property rights theory closer to transaction cost economics by allowing for ex-post moral hazard. As a consequence, central conclusions of the Grossman-Hart-Moore theory may be overturned. In particular, even though only party A has to make an investment decision, B-ownership can yield higher investment incentives. Moreover, ownership matters even when investments are fully relationship-specific (i.e., when they have no impact on the parties' disagreement payoffs).

Keywords: Incomplete Contracts, Investment incentives, moral hazard, Ownership rights, relationship specificity

JEL Classification: D23, D86, G34, L23, L24

Suggested Citation

Schmitz, Patrick W., Moral Hazard and the Property Rights Approach to the Theory of the Firm (July 2019). CEPR Discussion Paper No. DP13841. Available at SSRN:

Patrick W. Schmitz (Contact Author)

University of Cologne ( email )

Cologne, 50923


Centre for Economic Policy Research (CEPR)

United Kingdom

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