Economics - Research Publications

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Author: Basov, Suren × Subject: and Uncertainty. × Subject: C6 - Mathematical Methods and Programming ×

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    Non-monotone incentives in a model ofcoexisting hidden action and hidden information
    Basov, S. ( 2006-12)
    In this paper I consider a model of coexisting moral hazard andadverse selection, similar to one considered by Guesnerie, Picard, and Rey(1989). I provide an explicit solution for the optimal incentive scheme in thecase, when the effort is observed with a normally distributed error. The mainobservation is that in this case the optimal incentive scheme often fails tobe monotone. If the monotonicity constraint is imposed on the solution foreconomic reasons there would exist a region of profit realizations, such thatthe optimal compensation will be independent of on performance.Keywords and Phrases: hidden action, hidden information, Fredholmintegral equations of the first type, Hermit polynomials.