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We study a seller's trade credit provision decision in a situation of repeated contracting with incomplete information over the buyer's payment propensity when the enforceability of formal contracts is uncertain. The payment terms of a transaction are selected in an inter-temporal trade-off between improving the quality of information acquisition and mitigating relationship breakdown risks. When contract enforcement institutions are weak, the optimal within-relationship provision dynamics of trade credit can be uniquely determined and depend on the share of patient buyers in the destination market as well as their access to liquidity. We obtain empirical evidence showing that in developing countries the relevance of trade credit in buyers' payment schedules has risen over-proportionally in recent years.

Easing their access to capital markets, governments have been establishing a primary dealer system. Via bilateral self-enforcing agreements ('dealerships'), government debt management units (DMUs) have been appointing national and global banks (the 'dealers') to actively participate in government securities auctions and/or enhance liquidity in the secondary market. The partnership's non-binding and long-run nature makes dealerships relational contracts. Developing a theoretical framework, this study examines the DMU-dealer principal-agent relationship, with the overarching purpose of identifying and mitigating agency costs. Apart from monitoring costs, the article argues that the partnership entails institutional room for public-private collusion. Although the practice would help fostering the partnership's longevity, it could trigger negative externalities. Mitigating potential risks, policy proposals advocate to enhance: (i) monitoring of the dealers' behaviour in fixed income markets, and (ii) transparency in the DMU's governance of industry's benefits.

“Implicit Contracts, incentive compatibility, and involuntary unemployment” (MacLeod and Malcomson, 1989) remains our most highly cited work. We briefly review the development of this paper and of our subsequent related work, and conclude with reflections on the future of relational contract theory and practice.

Long-term relationships are often governed by a combination of contracts and implicit agreements. I show that there are welfare gains to writing long-term contracts with the intention of rewriting their terms at a later stage, despite lack of change in the underlying environment. This form of renegotiation is perfectly anticipated as part of an implicit agreement. The benefits of renegotiation are demonstrated in a principal-agent model with observable but noncontractible effort where the players sign long-term output-contingent contracts. Continuation contracts form a basis for punishing deviations from the implicit agreement, but their terms are renegotiated away on the equilibrium path. In the baseline model continuation contracts are designed to lead to unbounded punishments to the principal who is not protected by limited liability. This facilitates the implementation of first best outcomes regardless of the patience of the players and the output technology. In contrast, the first best is not attainable in equilibria without on-path renegotiation when the players are impatient. When the principal is protected by limited liability, continuation contracts can hold either player down to their outside option in equilibrium.

Work on relational employment agreements often predicts low payments or termination for poor performance. The possibility of saving can, however, limit the effectiveness of monetary incentives in motivating an employee with diminishing marginal utility for consumption. We study the role of savings and their observability in optimal relational contracts. We focus on the case where players are not too patient, and hence the constant first-best effort cannot be implemented. If savings are hidden, the relationship eventually deteriorates over time. In particular, both payments and effort decline. On the other hand, if savings are public, consumption is initially high, so the agent's savings fall over time, and effort and payments to the agent increase. The findings thus suggest how tacit agreements on consumption can forestall the deterioration of dynamic relationships in which the agent can save.

We study how informal buyer-supplier relationships in the German automotive industry affect procurement. Using unique data from a survey focusing on these, we show that more trust, the belief that the trading partner acts to maintain the mutual relationship, is associated with both higher quality of the automotive parts and more competition among suppliers. Yet both effects hold only for parts involving unsophisticated technology, not when technology is sophisticated. We rationalize these findings within a relational contracting model that critically focuses on changes in the bargaining power, due to differences in the costs of switching suppliers.

This paper studies how pay transparency affects organizations that reward employees based on their efforts (i.e., using "subjective performance evaluation"). First, we show that transparency triggers social comparisons that require the organization to pay its employees an "envy premium". This premium reduces the value of the employment relationship to the organization, and thus its incentive to pay subjective bonuses to the hard-working employees. To restore credibility of its incentive system, a transparent organization must therefore reduce the weight of bonuses, and increase the weight of fixed salaries, in the employees' compensation, relative to organizations that operate in a more conventional "pay secrecy" regime. Second, we show that transparency enables the employees to collectively sanction the organization for reneging on subjective incentives. Collective enforcement allows the transparent organization to use strong employment relationships to "cross-subsidize" weak ones, achieving a more balanced allocation of effort than under pay secrecy. We discuss testable implications of our model for compensation design, the choice between transparency and secrecy regimes, and organizational responses to pay transparency laws.

We study a communication game between an informed sender and an uninformed receiver with repeated interactions and voluntary transfers. Transfers motivate the receiver's decision‐making and signal the sender's information. Although full separation can always be supported in equilibrium, partial or complete pooling is optimal if the receiver's decision‐making is highly responsive to information. In this case, the receiver's decision‐making is disciplined by pooling states where she is most tempted to defect.

Reward systems based on balanced scorecards typically connect pay to an index, i.e. a weighted sum of multiple performance measures. However, there is no formal incentive model that actually describe this kind of index contracts as an optimal solution. In this paper, we show that an index contract may indeed be optimal if performance measures are non-verifiable so that the contracting parties must rely on self-enforcement. Under standard assumptions, the optimal self-enforcing (relational) contract between a principal and a Multitasking agent is an index contract where the agent gets a bonus if a weighted sum of performance outcomes on the various tasks (the index) exceeds a hurdle. For a parametric (multinormal) specification, the efficiency of the contract improves with higher precision of the index measure, since this strengthens incentives. Correlations between measurements may for this reason be beneficial. For a similar reason, the principal may also want to include verifiable performance measures in the relational index contract in order to improve incentives.

This paper analyzes a dynamic relational contract for employees with reciprocal preferences. I develop a tractable model to investigate how "direct" performance-pay (promising a bonus in exchange for effort) and generous upfront wages (which activate the norm of reciprocity) interact over the course of an employee's career. I show that firms can benefit from committing to paying non-discretionary wages in the future as this boosts their credibibility in the relational contract. The reason is that these wages have to be paid under any circumstances, whereas employees only reciprocate if the firm has kept its promises. Moreover, I demonstrate that more intense competition for workers can intensify the use of reciprocity-based incentives.

Effective organizations are able not only to coordinate their members on efficient strategies but also to adapt members' strategies to unforeseen change in an efficient manner. We explore whether part of organizational culture - namely, relational contracts that facilitate both coordination and adaptation - enable organizations to achieve these ends. In a novel experiment, we explore how parties establish such relational contracts, whether they achieve efficient cooperation, and how they adapt to exogenous shocks. Specifically, we test the hypothesis that basing a relational contract on general principles rather than specific rules is more successful in achieving efficient adaptation. In our Baseline condition, we observe that pairs who articulate general principles achieve significantly higher performance than those who rely on specific rules. The mechanism underlying this correlation is that pairs with principle-based agreements are more likely to expect their pair to take actions that are consistent with what their relational contract prescribes. To investigate whether there is a causal link between principle-based agreements and performance, we implement a "Nudge" intervention to foster principle-based relational contracts. The Nudge succeeded in causing more pairs to articulate principles, but the intervention failed to increase performance after the shock because many of the pairs induced to articulate principles then did not take actions that were consistent with their relational contracts. In short, our results suggest that (1) principle-based relational contracts may improve organizational performance, but also that (2) high-performing relational contracts may be difficult to build., CESifo Working Papers, 7871, ISSN:2364-1428, ISSN:1617-9595

Based on data from a comprehensive benchmarking study on buyer-supplier relationships in the German automotive industry, we show that more trust in a relationship is associated with higher idiosyncratic investment by suppliers and better part quality - but also with more competition among suppliers. Both associations hold only for parts involving comparatively unsophisticated technology, and disappear for parts involving sophisticated technology. We rationalize all these observations by means of a relational contracting model of repeated procurement with non-contractible, buyer-specific investments. In relationships involving higher trust, buyers are able to induce higher investment and more intense competition among suppliers - but only when the buyer has the bargaining power. This ability disappears when the bargaining power resides with the supplier(s).

This paper explores how a relational contract establishes a norm of reciprocity and how such a norm shapes the provision of informal incentives. Developing a model of a long-term employment relationship, I show that generous upfront wages that activate the norm of reciprocity are more important when an employee is close to retirement. In earlier stages, direct incentives promising a bonus in exchange for effort are more effective. Then, a longer remaining time horizon increases the employer’s commitment. Generally, direct and reciprocity-based incentives reinforce each other and should thus optimally be used in combination. I also show that more competition can magnify the use of reciprocity-based incentives. Moreover, with asymmetric information on the employee’s responsiveness to the norm of reciprocity, an early separation of types is generally optimal. Then, the principal might benefit from asymmetric information because a firing threat is only credible if the employee potentially is not reciprocal.

We investigate how payoff-irrelevant terms can negatively impact relational contracts. In a lab experiment we compare two economically equivalent contracts – a fixed-term renewable and an open-ended at-will contract. Each contract provides partners with full flexibility regarding the length and termination of their interaction. When only one contract type is available, principals and agents in our experiment manage to form long-term profitable relationships irrespective of the contract type. However, when both contracts are available offering a fixed-term instead of an open-ended contract is perceived as unkind and results in lower effort provided by the agents. We show that this observed difference is not a matter of sorting, but a direct response to the contract type. Our results demonstrate that a relational contract might be affected by payoff-irrelevant terms and their perceived kindness.

We analyze a relational contracting problem, in which the principal has private information about the future value of the relationship. In order to reduce bonus payments, the principal is tempted to claim that the value of the future relationship is lower than it actually is. To induce truth-telling, the optimal relational contract may introduce distortions after a bad report. For some levels of the discount factor, output is reduced by more than would be sequentially optimal. This distortion is attenuated over time even if prospects remain bad. Our model thus provides an alternative explanation for indirect short-run costs of downsizing.

In this paper, we consider a dynamic search-and-matching problem of a firm with its intermediate input supplier. In our model, a headquarter currently matched with a supplier, has an interest to find and collaborate with a more efficient partner. However, supplier switching through search and re-matching is costly. Given this trade-off between the fixed costs and the expected gains from continued search, the process will stop whenever the headquarter has found a sufficiently efficient supplier. Using firm-product-level data of fresh Chinese exporters to the United States, we obtain empirical evidence in line with the predictions of our theory. In particular, we find that the share of short-term collaborations is higher in industries with more supplier-cost dispersion, an indication of higher expected search opportunities.

We explore how inherent preferences for reciprocity and repeated interaction interact in an optimal incentive system. Developing a theoretical model of a long-term employment relationship, we first show that reciprocal preferences are more important when an employee is close to retirement. At earlier stages, repeated interaction is more important because more future rents can be used to provide incentives. Preferences for reciprocity still affect the structure of an employment relationship early on, though, because of two reasons: first, preferences for reciprocity effectively reduce the employee’s effort costs. Second, they allow to relax the enforceability constraint that determines the principal’s commitment in the repeated interaction. Therefore, reciprocity-based and repeated-game incentives are dynamic substitutes, but complements at any given point in time. We test our main predictions using data from the German Socio-Economic Panel (SOEP) and find evidence for a stronger positive effect of positive reciprocity on effort for older workers.

In this paper, we consider a dynamic search-and-matching problem of a firm with its intermediate input supplier. In our model, a headquarter currently matched with a supplier, has an interest to find and collaborate with a more efficient partner. However, supplier switching through search and re-matching is costly. Given this trade-off between the fixed costs and the expected gains from continued search, the process will stop whenever the headquarter has found a sufficiently efficient supplier. Using firm-product-level data of fresh Chinese exporters to the United States, we obtain empirical evidence in line with the predictions of our theory. In particular, we find that the share of short-term collaborations is higher in industries with more supplier-cost dispersion, an indication of higher expected search opportunities.

Humans reciprocate. We want to return favors we have received, but also respond appropriately to behavior that we regard as unfair against us. Whereas previous research has typically tried to isolate the most prominent explanations for reciprocal behavior - inherent preferences for reciprocity and repeated interaction - the present paper addresses the question if and how those interact. Developing a theoretical model of a long-term employment relationship, we first show that reciprocal preferences are more important when an employee is close to retirement. At earlier stages, repeated interaction is more important because more future rents (which increase players’ commitment in this case) can be used to provide incentives. Preferences for reciprocity still affect the structure of an employment relationship early on, though, because of two reasons. First, preferences for reciprocity effectively reduce the employee’s effort costs. Second, they allow to relax the enforceability constraint that determines the principal’s commitment in the repeated interaction. We test our main predictions using data from the German Socio-Economic Panel (SOEP) and find cross-sectional evidence for a stronger positive effect of positive reciprocity on effort and wages for older workers.

Existing theories of a firm's optimal capital structure seem to fail in explaining why many healthy and profitable firms rely heavily on equity financing, even though benefits associated with debt (like tax shields) appear to be high and the bankruptcy risk low. This holds in particular for firms that show a strong commitment towards their workforce and are popular among employees. We demonstrate that such financing behavior may be driven by implicit arrangements made between a firm and its managers/employees. Equity financing generally strengthens a firm's credibility to honor implicit promises. Debt, on the other hand, has an adverse effect on the enforceability of these arrangements because too much debt increases the firm's reneging temptation, as some of the negative consequences of breaking implicit promises can be shifted to creditors. Our analysis provides an explanation for why some firms only use little debt financing. Predictions made by our theory are in line with a number of empirical results, which seem to stay in contrast to existing theories on capital structure. Our findings also carry new implications for how policies (e.g., tax policy) affect firm behavior.

We show that team formation can serve as an implicit commitment device to overcome problems of self-control. In a situation where individuals have present-biased preferences, any effort that is costly today but rewarded at some later point in time is too low from the perspective of an individual's long-run self. If agents interact repeatedly and can monitor each other, a relational contract involving teamwork can help to improve an agent's performance. The mutual promise to work harder is credible because the team breaks up after an agent has not kept this promise - which leads to individual (under-) production in the future and reduces an agent's future utility. This holds even though the standard free-rider problem is present and teamwork renders no technological benefits. Moreover, we show that even if teamwork does render technological benefits, the performance of a team of present-biased agents can actually be better than the performance of a team of time-consistent agents.

Work and trade relationships are often governed by relational contracts, in which incentives for cooperative action today stem from the prospective future benefits of the relationship. In this paper, we study how a lack of hard information about the costs of providing quality, and therefore about the financial consequences of actions, affects relational contracts in buyer-seller relationships. The absence of verifiable information can impede the joint understanding of what constitutes cooperative behavior, and may thus inject mistrust into relationships. Comparing seller-buyer relationships with hard (verifiable) and soft (non-verifiable) information about seller costs in the laboratory, we find that soft information affects the terms of relational contracts. Contractual terms are adjusted to the detriment of the uniformed party. However, the uniformed party does not reciprocate these adjustments with efficiency-reducing actions. We therefore find that asymmetric information only affects the distribution of rents, and not efficiency.

The corporate finance literature documents that managers tend to overinvest into physical assets. A number of theoretical contributions have aimed to explain this stylized fact, most of them focussing on a fundamental agency problem between shareholders and managers. The present paper shows that overinvestments are not necessarily the (negative) consequence of agency problems between shareholders and managers, but instead might be a second-best optimal response if the scope of court-enforceable contracts is limited. In such an environment a firm has to rely on relational contracts in order to manage the agency relationship with its workforce. The paper shows that investments into physical productive assets enhance the enforceability of relational contracts and hence investments optimally are "too high".

Headquarters and their specialized component suppliers have a vital interest in establishing long-term collaborations. When formal contracts are not enforceable, such efficiency enhancing cooperation’s can be established via informal agreements, but relational contracts have been largely ignored in the literature on the international organization of value chains. In this paper, we develop a dynamic property rights model of global sourcing. A domestic headquarter collaborates with a foreign input supplier and makes two decisions in every period: i) whether to engage in a costly search for a better partner, and ii) whether to make a non-binding offer to overcome hold-up problems. Our key result is that the possibility to switch partners crucially affects the contractual nature of buyer-supplier relationships. In particular, some patient firms do not immediately establish a relational contract, but only when they decide to stop searching and thus launch a long-term collaboration with their supplier. From our model, we develop an instrumental variable estimation strategy that we apply using transaction-level data of fresh Chinese exporters to the US. We obtain empirical evidence in line with the theoretical prediction of a positive causal effect of match durations on relational contracting.

Relational contracts - informal agreements sustained by the value of future relationships - are integral parts of global production processes. This paper develops a repeated-game model of global sourcing in which final goods producers decide whether to engage with their suppliers in relational contracting and whether to integrate a supplier into a firm's boundaries or deal with the latter at arm's length. The model predicts that the likelihood of vertical integration increases in the long-term orientation of cooperation parties. Combining data from the U.S. Census Bureau's Related Party Trade database with measures for long-term orientation from Hofstede et al. (2010) and World Values Survey, I find empirical evidence supportive of this paper's key prediction. To better understand if the relationship is causal, I apply instrumental variables approach using genetic proxies and inherited components of long-term orientation as instruments. Taken together, the evidence suggests that the level of long-term orientation of the home and host country has a positive effect on the relative prevalence of vertical integration.

We develop a simple theoretical model of a long term buyer-supplier relationship with non-contractible buyer specific R&D investment, and derive predictions on the effects of trust and competition on suppliers' investment and buyers' procurement strategies. We address these issues empirically using unique survey data on individual buyer-supplier relationships in the German automotive industry. Consistent with the model's predictions, higher levels of trust are associated with higher investment levels - but also with more competitive procurement: trust and rents from reduced supplier competition in the procurement process emerge as substitutes both in theory and in the data.

We develop a model of relational contracts with moral hazard and asymmetric persistent information about an employee's type. We find that the form of the optimal contract depends on the job characteristics as well as the distribution of employees' talent. Bonus contracts are more likely to be adopted in complex jobs and when high talent is not too common or too rare. Firms with 'normal' jobs are more likely to adopt termination contracts. In labor market equilibrium, different contracts may be adopted by ex ante identical firms. Hence, we offer an explanation for the co-existence of different employment systems within the same industry.

Private Military and Security Companies (PMSCs) have been gaining increasing media and scholarly attention particularly due to their indispensable role in the wars in Afghanistan 2001 and Iraq 2003. Nevertheless, theoretical insights into the agency problems inherent when hiring PMSCs and how to optimally incentivize them are scarce. We study the complex relationship between intervening state, host state, and PMSC, taking into account the diverging interests of all involved parties as well as potential agency problems. We develop a theoretical model to characterize a state’s optimal choice whether to perform a task associated with an intervening mission itself, hire a PMSC and optimally design the contract, or completely abstain from it. We find that it might be optimal to hire PMSCs even if they are expected to do a worse job than the intervening state would do itself. This outcome is especially problematic for the host state, which prefers associated tasks to be done as good and carefully as possible. Furthermore, the often-heard call for transparency regarding agreements with PMSCs can lead to a situation where the latter’s performance gets even worse - namely because the ability to implicit reward PMSCs for a good performance in the past is reduced.

Contracts may be subject to strategic default, particularly if public enforcement institutions are weak. In a lab experiment, we study behavior in a contract farming game without third-party enforcement but with an external spot market as outside option. Two players, farmer and company, may conclude a contract but also breach it by side-selling or arbitrary payment reductions. We examine if and how relational contracts and personal communication can support private-order enforcement. Moreover, we investigate whether company players offer price premiums to extend the contract's self-enforcing range. We find mixed evidence for our private ordering hypothesis. Although contract breach can be reduced by relational contracts, direct bargaining communication does not additionally improve the outcome. Price premiums are offered if other enforcement mechanisms are absent, but turn out to be only an 'allurement'. Most subjects are not willing to sacrifice short-term gains in favor of a well-functioning relationship that (as we show) would be beneficial for both contract parties in the long run.

The need to give incentives is usually absent in the literature on minimum wages. However, especially in the service sector it is important how well a job is done, and employees must be incentivized to perform accordingly. Furthermore, many aspects regarding service quality cannot be verified, which implies that relational contracts have to be used to provide incentives. The present article shows that in this case, a minimum wage increases implemented effort, i.e., realized service quality, as well as the efficiency of an employment relationship. Hence, it can be explained why productivity and service quality went up after the introduction of the British National Minimum Wage, and that this might actually have caused a more efficient labor market. Furthermore, if workers have low bargaining power, a higher minimum wage also increases firm profits and consequently employment. Therefore, the present article presents a new perspective on reasons for why minimum wages often have no or only negligible employment effects.

This paper applies the theory of relational contracts to a model in which a couple decides whether to marry or cohabit, how many children to have and subsequently whether to stay together or separate. We make precise the idea that cooperation in a household can be supported by self interest. Since the costs of raising children are unequally distributed among partners, there is a potential conflict between individually optimal and efficient, i.e. surplus maximizing, decisions. Side-payments are used to support cooperation but are not legally enforceable and thus have to be part of an equilibrium. This requires a stable relationship and credible punishment threats. Within this relational contracts framework, we analyze the effects of policy variables such as rights of access to children post-separation and wealth division/alimony rules, as well as the legal costs of divorce, on the interrelationships among the decisions on marriage, fertility and divorce.

We analyze relational contracts for a set of agents when either (a) only aggregate output or (b) individual outputs are observable. A team incentive scheme, where each agent is paid a bonus for aggregate output above a threshold, is optimal in case (a). The team’s efficiency may increase considerably with size if outputs are negatively correlated. Under (b) a tournament scheme with a threshold is optimal, where the threshold, for correlated outputs, depends on an agent’s relative performance. The two cases reveal that it may be optimal to organize production as a team where only aggregate output is observable.

This paper studies how altruism between managers and employees affects relational incentive contracts. To this end we develop a simple dynamic principal-agent model where both players may have feelings of altruism or spite toward each other. The con- tract may contain two types of incentives for the agent to work hard: a bonus and a threat of dismissal. We find that altruism undermines the credibility of a threat of dis- missal but strengthens the credibility of a bonus. Among others, these two mechanisms imply that higher altruism sometimes leads to higher bonuses, while lower altruism may increase productivity and players utility in equilibrium.

This paper studies how social relationships between managers and employees affect relational incentive contracts. To this end we develop a simple dynamic principal-agent model where both players may have feelings of altruism or spite toward each other. The contract may contain two types of incentives for the agent to work hard: a bonus and a threat of dismissal. We find that good social relationships undermine the credibility of a threat of dismissal but strengthen the credibility of a bonus. Among others, these two mechanisms imply that better social relationships sometimes lead to higher bonuses, while worse social relationships may increase productivity and players' utility in equilibrium.

Based on my recent work with several co-authors this paper explores the relationship between discretion, reputation, competition and entry in procurement markets. I focus especially on public procurement, which is highly regulated for accountability and trade reasons. In Europe regulation constrains the use of past performance information to select contractors while in the US its use is encouraged. I present some novel evidence on the benefits of allowing buyers to use reputational indicators based on past performance and discuss the complementary roles of discretion and restricted competition in reinforcing relational/reputational forces, both in theory and in a new empirical study on the effects restricted rather than open auctions. I conclude reporting preliminary results form a laboratory experiment showing that reputational mechanisms can be designed to stimulate rather than hindering new entry.

We model non-binding retail-price recommendations (RPRs) as a communication device facilitating coordination in vertical supply relations. Assuming both repeated vertical trade and asymmetric information about production costs, we show that RPRs may be part of a relational contract, communicating private information from manufacturer to retailer that is indispensable for maximizing joint surplus. We show that this contract is self-enforcing if the retailer’s profit is independent of production costs and punishment strategies are chosen appropriately. We also extend our analysis to settings where consumer demand is variable or depends directly on the manufacturer’s RPRs. Keywords: vertical relationships, relational contracts, asymmetric information, price recommendations. JEL Classification: D23; D43; L14; L15.

Relational contracts have been shown to mitigate moral hazard in labor and credit markets. A central assumption in most theoretical and experimental studies is that, upon misbehaving, agents can be excluded from their current source of income and have to resort to less attractive outside options. This threat of exclusion is unrealistic in many environments, and especially in credit and investment contexts. We examine experimentally the emergence and time structure of relational contracts when the threat of exclusion is weakened. We focus on bilateral credit relationships in which strategic default is possible. We compare a weak exclusion treatment in which defaulting borrowers can reinvest borrowed funds, to a strong exclusion treatment in which defaulting borrowers must liquidate borrowed funds. We find that under weak exclusion more relationships break down in early periods and credit relationships are more likely to “start small”.

We consider repeated trust game experiments to study the interplay between explicit and relational incentives. After having gained experience with two payoff variations of the trust game, subjects in the final part explicitly choose which of these two variants to play. Theory predicts that subjects will choose the payoff dominated game (representing a bad explicit contract), because this game better sustains (implicit) relational incentives backed by either reputational or reciprocity considerations. We also explicitly test how game choice is affected by the length of the repeated game.

We study the impact of reputational incentives in markets characterized by moral hazard problems. Social preferences have been shown to enhance contract enforcement in these markets, while at the same time generating considerable wage and price rigidity. Reputation powerfully amplifies the positive effects of social preferences on contract enforcement by increasing contract efficiency substantially. This effect is, however, associated with a considerable bilateralisation of market interactions, suggesting that it may aggravate price rigidities. Surprisingly, reputation in fact weakens the wage and price rigidities arising from social preferences. Thus, in markets characterized by moral hazard, reputational incentives unambiguously increase mutually beneficial exchanges, reduce rents, and render markets more responsive to supply and demand shocks.

This paper applies the theory of relational contracts to make precise the idea that because households are engaged in a repeated non-cooperative game, Pareto efficient outcomes can be supported by self interest, given the specific pattern of specialisation and exchange which exists in the household. The household's choice of a particular solution from the resulting feasible set is found by the maximisation of a household welfare function, a generalisation of a suggestion originally made by Samuelson. This nests as special cases the objective functions used in currently popular models of households engaged in one-shot cooperative games. We take a specific example of such a household welfare function, characterise the determinants of the household utility distribution, and then apply the model to examine the effects of a move from joint to individual taxation. We show that on standard stylised facts, secondary earners are always better off absolutely, and define the conditions under which they will also be so relatively. This confirms the conclusions from models which concern themselves only with the across-household welfare distribution.

Experimental studies have consistently shown that cooperative outcomes can emerge even in finitely repeated games. Such outcomes are justified by existing reputation building models, which suggest that cooperative outcomes can be sustained if some subjects have other-regarding preferences. While the existence of other-regarding preferences is typically used to justify experimental outcomes, we are unaware of empirical studies that explicitly examine the interaction between cooperators (those with other-regarding preferences) and selfish subjects in sustaining cooperation. In this paper, we classify subjects as either selfish or cooperative using simple social preference games and then test for behavioral differences between the two types in a finitely-repeated labor market with unenforceable worker effort. Theory predicts, and our data confirms, that (1) selfish players mimic the actions of cooperators when trading partners can track the individual reputation of past partners and (2) selfish and cooperative types act differently when individual reputations cannot be tracked.

When unemployment prevails, relations with a particular firm are valuable for workers. As a consequence, a worker may adhere to an implicit agreement to provide high effort, even when performance is not third-party enforceable. But can implicit agreements - or relational contracts - also motivate high worker performance when the labor market is tight? We examine this question by implementing an experimental market in which there is an excess demand for labor and the performance of workers is not third-party enforceable. We show that relational contracts emerge in which firms reward performing workers with wages that exceed the going market rate. This motivates workers to provide high effort, even though they could shirk and switch firms. Our results thus suggest that unemployment is not a necessary device to motivate workers. We also discuss how market conditions affect relational contracting by comparing identical labor markets with excess supply and excess demand for labor. Long-term relationships turn out to be less frequent when there is excess demand for labor compared to a market characterized by unemployment. Surprisingly though, this does not compromise market performance.

Standard models of promotion tournaments assume that firms can commit to arbitrary tournament prizes. In this paper, a firm's ability to adjust tournament prizes is constrained by the outside labor market, through the wages other firms are willing to offer to the promoted and unpromoted workers. The paper shows that sufficiently patient firms may be able to retain some control over the tournament prizes through a relational contract, but if the firms are competitive, full efficiency does not obtain in equilibrium even for discount factors arbitrarily close to one. Full efficiency, however, may be feasible in firms with supranormal profits (monopolistic firms). The paper also shows that a minimum wage regulation distorts the workers' investments in human capital by restricting the firms' abilities to design efficient promotion tournaments. A minimum wage thus leads to underinvestment in competitive firms, but could lead to excessive human capital accumulation in monopolistic firms.

When procurement contracts are awarded through competitive tendering participating firms commit ex ante to fulfil a set of contractual duties. However, selected contractors may find profitable to renege ex post on their promises by opportunistically delivering lower quality standards. In order to deter ex post moral hazard, buyers may use different strategies depending on the extent to which quality dimensions are contractible, that is, verifiable by contracting parties and by courts. We consider a stylized repeated procurement framework in which a buyer awards a contract over time to two firms with different efficiency levels. If the contractor does not deliver the agreed level of performance the buyer may handicap the same firm in future competitive tendering. We prove that under complete information extremely severe handicapping is never a credible strategy for the buyer, rather the latter finds it optimal to punish the opportunistic firm so as to make the pool of competitors more alike. In other words, when opportunistic behaviour arises, the buyer should use handicapping to "level the playing field".

In this paper agricultural land markets are regarded as organisations, which allows to take the effect of the social embeddedness of exchange into account. The markets-as organizations approach suggests that markets are governed by an internal "constitution" containing rules on dissemination of information, control procedures and sanctioning mechanisms that provide advantages to members. The design of the market constitution is believed to be strongly influenced by the constellation of actors and their characteristics. In order to investigate the validity of this assumption the study chooses a comparative approach that analyses the content of land market rules in settings with different actor constellations and tries to find out why they have been established in this way. Both qualitative and quantitative data collected in three village case studies and a survey in two structurally different regions of Poland is used. The results underline that the internal constitution of the organisation "land market" is designed to serve members' interests by decreasing transaction costs and protecting community welfare and also support the expectation that the rules differ according to actor constellations.

Why does individual performance pay seem to prevail in human capital intensive industries? We present a model that may explain this. In a repeated game model of relational contracting, we analyze the conditions for implementing peer dependent incentive regimes when agents possess indispensable human capital. We show that the larger the share of values that the agents can hold-up, the lower is the implementable degree of peer dependent incentives. In a setting with team effects — complementary tasks and peer pressure, respectively — we show that while team-based incentives are optimal if agents are dispensable, it may be costly, and in fact suboptimal, to provide team incentives once the agents become indispensable.

In this paper, a formal rent-seeking theory of the firm is developed. The main idea is that integration (compared to non-integration) facilitates rent-seeking for the integrating party, but makes it harder for the integrated one. In a one-period model, this implies that the rent-seeking contest becomes more uneven and the parties rent-seek less. Here, integration is optimal. In the infinitely-repeated version of the model, it is also possible for the parties to enter a relational contract, under which each promises not to engage in rent-seeking. Such a contract must be self-enforcing, for it cannot be enforced by court. It is shown that integration makes the relational contract less easily sustainable, as, due to its cost advantage, the integrating party gains more from deviating than any party under non-integration. Hence, integration is preferred, if relational contracts are not sustainable, while, otherwise, non-integration may well be preferred. Moreover, it is shown that the model’s predictions are in line with many empirical facts on the choice of ownership structures.

This paper analyzes the problem of optimal job design when there is only one contractible and imperfect performance measure for all tasks whose contribution to firm value is non-veritable. I find that task splitting is optimal when relational contracts based on firm value are not feasible. By contrast, if an agent who performs a given set of tasks receives an implicit bonus, the principal always benefits from assigning an additional task to this agent.

Diese Dissertation enthält vier Aufsätze zur Theorie der Anreizsetzung bei nicht-verifizierbaren Leistungsmaßen. Es werden positive Dominanzanalysen für Anreizmechanismen durchgeführt, die in realen wirtschaftlichen Situationen Anwendung finden. Der erste Aufsatz analysiert zwei Bonus-Wettbewerbe in Unternehmen. Der Prinzipal kann entweder einen Bonuspool festlegen, dessen Aufteilung von der Leistung der Agenten abhängt, oder bereits ex ante die Höhe der Boni fixieren. Eine höhere Präzision der Leistungsmessung führt nur im zweiten Fall zu stärkeren Anreizen. Die optimale Wahl des Wettbewerbs hängt von den Präferenzen der Agenten, ihren Liquiditätsbeschränkungen und den Kosten der Leistungsmessung ab. Der zweite Aufsatz untersucht die optimale Zuordnung von Aufgaben auf Stellen wenn relationale Verträge basierend auf subjektiven Leistungsmaßen explizite Anreizverträge ergänzen können. Die Spaltung von Aufgaben ist optimal, wenn die glaubhafte Bindung an relationale Verträge nicht möglich ist. Dagegen sollten Aufgaben immer dann gebündelt werden, wenn relationale Verträge bereits bestehen. Im dritten Aufsatz möchte ein Käufer eine Innovation erwerben. Um qualitätssteigernde Investitionen bei potentiellen Anbietern zu induzieren, kann der Käufer entweder einen fixen Preis ausschreiben oder einen Auktionsmechanismus nutzen. Obwohl Investitionen unter der Auktion immer höher sind, bevorzugt der Käufer einen fixen Preis wenn die Grenzkosten der Qualitätsmessung hoch sind oder die Produktionstechnologie starken Zufallseinflüssen unterliegt. Im letzten Aufsatz möchte ein Prinzipal das Produktionsergebnis zweier Agenten maximieren, die vor der Produktion in eine kostenreduzierende Innovation investieren können. Dabei kommt es zu Spillover-Effekten. Bei einer allgemeinen Preissubvention sind Investitionen stets zu gering, während ein Innovationswettbewerb zu Unter- und Überinvestitionen führen kann. Der Prinzipal bevorzugt eine Preissubvention bei starken Spillover-Effekten. This thesis consists of four self-contained essays that compare real-world incentive schemes used to mitigate moral hazard problems under non-verifiable performance. The first essay contrasts the impact of the precision of performance measurement on wage costs in U- and J-type tournaments. In U-type tournaments prizes are fixed. In J-type tournaments only an overall wage sum is specified. The principal prefers a U-type tournament if workers receive a rent under limited liability and the costs of increasing precision are low. However, if workers are inequity-averse and have unlimited liability, the J-type tournament leads to lower wage costs. The second essay analyzes optimal job design when there is only one contractible and imperfect performance measure for all tasks whose contribution to firm value is non-verifiable. Task splitting is optimal when relational contracts based on firm value are not feasible. By contrast, if an agent who performs a given set of tasks receives an implicit bonus, the principal always benefits from assigning an additional task to this agent. The third essay compares an auction and a tournament in a procurement setting with non-contractible quality signals. Signals are affected by firms' non-observable investments in R&D and the procurer's precision of quality measurement. Although investments are always higher with the auction, the procurer may prefer the tournament if marginal costs of quality measurement are high or the production technology for quality is highly random. In the last essay, a principal wants to induce two agents to produce an output. Agents can undertake non-contractible investments to reduce production cost of the output. Part of this "innovation" spills over and also reduces production cost of the other agent. Agents always underinvest with a general output price subsidy, while they may or may not do so with an innovation tournament. Strong spillovers tend to favor a general output price subsidy.

The benefits and costs of different forms of job design have been analyzed in the literature yet. The focus has thereby mostly been on job designs under formal contracts between the parties. However, in the real world relational contracts - informal agreements sustained by the value of future relationships - play a role as important as formal ones. This paper therefore considers the advantages and disadvantages of two different kinds of job design, partial del- egation and complete delegation with specialization, when the parties make use of both, formal and informal agreements. It is found that many of the results derived in the absence of informal contracts will no longer hold, if these contracts become available.