Selling Self-Control

Abstract

This paper presents a theoretical analysis of the emerging market of commitment devices as a solution to widespread self-control problems. The commitment device increases the buyer's cost of non-compliance with a personal goal. Our analysis focuses on the optimal contractual design by a monopolistic profit-maximizing seller, who does not observe the buyer's self-control deficiency. When the buyer's investment return is sufficiently high, the optimal contracts achieve the first best, even with the incomplete information. When the investment return is lower, however, asymmetric information leads to a second-best separating equilibrium in which the seller distorts the commitment contract for buyers with weak self-control and causes this type of buyers to over-invest. Although the seller's collection of penalty payment in the case of non-compliance sounds "exploitative", mandating sellers to use non-monetary penalty or to transfer penalty payments to third parties leads to a more severe over-investment problem and reduces welfare.

Keywords: time inconsistency, self-control market, commitment device, penalty, screening, contract design

JEL Classification: D86, D91