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Reputations, Relationships and the Enforcement of Incomplete Contracts

53 Pages Posted: 16 Feb 2006  

W. Bentley MacLeod

Columbia University - Department of Economics; National Bureau of Economic Research (NBER); IZA Institute of Labor Economics

Date Written: May 2006

Abstract

This paper discusses the literature on the enforcement of incomplete contracts. It compares legal enforcement to enforcement via relationships and reputations. A number of mechanisms, such as the repeat purchase mechanism (Klein and Leffler (1981)) and efficiency wages (Shapiro and Stiglitz (1984)), have been offered as solutions to the problem of enforcing an incomplete contract. It is shown that the efficiency of these solutions is very sensitive to the characteristics of the good or service exchanged. In general, neither the repeat purchase mechanism nor efficiency wages is the most efficient in the set of possible relational contracts. In many situations, total output may be increased through the use of performance pay and through increasing the quality of law.

Keywords: contract, law and economics, reputation, repeated games, incomplete

JEL Classification: D86, K12, C7, O17

Suggested Citation

MacLeod, W. Bentley, Reputations, Relationships and the Enforcement of Incomplete Contracts (May 2006). CESifo Working Paper Series No. 1730; IZA Discussion Paper No. 1978. Available at SSRN: https://ssrn.com/abstract=885347

William Bentley MacLeod (Contact Author)

Columbia University - Department of Economics ( email )

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New York, NY 10027
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

IZA Institute of Labor Economics ( email )

P.O. Box 7240
Bonn, D-53072
Germany

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