Intermediation by Aid Agencies
University of Birmingham Economics Working Paper No. 05-16
32 Pages Posted: 17 Nov 2004
Date Written: October 2005
This paper models aid agencies as financial intermediaries that do not make a financial return to depositors, whose concern is to transfer resources to investor-beneficiaries. This leads to a problem of verifying that the agency is using donations as intended. One solution to this problem is for an agency to employ altruistic workers at below-market wages: altruistic workers, who can monitor the agency's activities, would not work at below-market rates unless it were genuinely transferring resources to beneficiaries. We consider conditions for this solution to be incentive compatible. In a model with pure moral hazard, observability of wages makes incorporation as a not-for-profit firm redundant as a commitment device. In a model with both moral hazard and adverse selection, incorporation as a not-for-profit firm can serve as a costly commitment mechanism reassuring donors against misuse of their funds. Hiring a worker of low ability can also be a valuable commitment device against fraud.
Keywords: Signalling, non-profit, wage differential, donations, altruism, two-sided market
JEL Classification: D21, D64, J31, L31
Suggested Citation: Suggested Citation