The Impact of Merger Legislation on Bank Mergers

Abstract:

We study the impact on bank merger activity of the strengthening in merger control legislation introduced in Europe between 1989 and 2004. We find that strengthening merger control increases the abnormal returns on bank target stocks in the days around the merger announcement by 7 percentage points relative to before the new legislation. We discuss several potential explanations for this effect of the change in legislation by studying changes in merger characteristics. We find a weak increase in the pre-merger profitability of target banks, a decrease in the size of acquirers and a decrease in the share of transactions in which banks are acquired by other banks. Other merger properties, including the size and risk profile of targets, the geographic overlap of merging banks and the stock market response of rival banks in the country appear unaffected. The evidence is consistent with legislation changes leading to transactions being undertaken that are more profitable and more pro-competitive.

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SFB530.pdf

Capital Adjustment Costs: Implications for Domestic and Export Sales Dynamics

Abstract:

Theoretical and empirical work on export dynamics has generally assumed constant marginal production cost and therefore ignored domestic product market conditions. However, recent studies have documented a negative correlation between fi…rms'’ domestic and export sales growth, suggesting that fi…rms can be capacity constrained in the short run and face increasing marginal production cost. This paper develops and estimates a dynamic model of export behavior incorporating short-term capacity constraints and endogenous capital investment. Consistent with the empirical evidence, the model features fi…rms'’ sales substitutions across markets in the short term, and generates time-varying transition paths of fi…rm responses through …rms’capital adjustments over time.

The model is fi…t to a panel of plant-level data for Colombian manufacturing industries and used to simulate how …firm responses transition following an exchange-rate devaluation. The results indicate that incorporating capital adjustment costs is quantitatively important, as shown by the length of the transition period, and the di¤erence between the short-run and long-run exchange rate elasticity of exports. Firms’' expecation on the permanence of the policy changes also matters.

JEL Classification: F12, L11, F14

Keywords: International trade; heterogeneous fi…rms; capacity constraints; capitaladjustment costs; …firm dynamics; fi…rm panel data.

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529.pdf

Balance of power and the propensity of conflict

Abstract:

We study the role of an imbalance in fighting strengths when players bargain in the shadow of conflict. Our experimental results suggest: In a simple bargaining game with an exogenous mediation proposal, the likelihood of conflict is independent of the balance of power. If bargaining involves endogenous demand choices, however, the likelihood of conflict is higher if power is more imbalanced. Even though endogenous bargaining outcomes reflect the players’ unequal fighting strengths, strategic uncertainty causes outcomes to be most efficient when power is balanced. In turn, the importance of exogenous mediation proposals depends on the balance of power.

JEL Classification: C78, C91, D72, D74

Keywords: Conflict, balance of power, contest, bargaining, Nash demand game, conflict resolution, asymmetries, experiment

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528.pdf

A Theory of Crowdfunding - a mechanism design approach with demand uncertainty and moral hazard

Abstract:

Crowdfunding provides the innovation that, before the investment, entrepreneurs contract with consumers. Under demand uncertainty, this improves a screening for valuable projects. Entrepreneurial moral hazard threatens this benefit. Focusing on the trade-off between value screening and moral hazard, the paper characterizes optimal mechanisms. Current crowdfunding schemes reflect their salient features. Efficiency is sustainable only if returns exceed investment costs by a margin reflecting the degree of moral hazard. Constrained efficient mechanisms exhibit underinvestment. Crowdfunding blurs the distinction between finance and marketing, but complements rather than substitutes traditional entrepreneurial financing. As a screening tool for valuable projects, crowdfunding unambiguously promotes social welfare.

Keywords: Crowdfunding, finance, marketing, demand, uncertainty, moral hazard

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527.pdf

The impact of fine size and uncertainty on punishment and deterrence: Theory and evidence from the laboratory

Abstract:

We develop a theoretical model to identify and compare partial and equilibrium effects of uncertainty and the magnitude of fines on punishment and deterrence. Partial effects are effects on potential violators' and punishers' decisions when the other side's behavior is exogenously given. Equilibrium effects account for the interdependency of these decisions. This interdependency is important since, in the case of legal uncertainty, higher fines may reduce the willingness to punish, which in turn reduces the deterrence effect of high fines. Using a laboratory experiment, we identify these effects empirically by means of a strategy-method design in which potential violators can condition their behavior on the behavior of potential punishers and vice versa. All our experimental findings on both partial and equilibrium effects are in line with the hypotheses derived from the theory.

JEL classification: K12, K42, C91, D64
Keywords: Deterrence, Punishment, Uncertainty, Fines, Partial and Equilibrium Effects, Lab Experiment

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526.pdf

Trade, Technologies, and the Evolution of Corporate Governance

Abstract:

Do international trade and technological change influence how firms create incentives for human capital? I present a model that incorporates agency problems into a framework with firm heterogeneity and human capital. My model indicates that trade liberalizations and skill-biased technological change alter the way how the largest firms in an economy incentivize their managers. Increases in managerial reservation wages lead to a reduction in corporate governance investments and a rise in performance compensation since monitoring managers becomes less efficient. Using data on CEO compensation and entrenchment opportunities in public industrial firms in the U.S., I document strong empirical regularities in support of the model predictions. Firms allow for more managerial entrenchment and offer larger CEO compensation when their industries become more open to trade or when production becomes more I.T. intensive.

JEL classification: F1, F16, G34, J33, L22, O33
Keywords: International Trade and Firm Organization, Agency Problems in International Trade, Endogenous Managerial Entrenchment, Corporate Governance and CEO Compensation

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525SFB.pdf

Delegation and Communication

Abstract:

This paper analyzes delegation and joint decision making in an environment with private information and partially aligned preferences. We compare the benefits of these two decision making procedures as well as the interaction between them. We give a condition under which delegation is preferred to ex post joint decision making and we show how the interaction between delegation and ex post joint decision making always crowds out delegation. Finally, we analyze how the availability of the principal at the communication stage affects our results.

JEL classification: D23, D82, L23

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524SFB.pdf

Does a Platform Monopolist Want Competition?

Abstract:

We consider a software vendor first selling a monopoly platform and then an application running on this platform. He may face competition by an entrant in the applications market. The platform monopolist can benefit from competition for three reasons. First, his profits from the platform increase. Second, competition serves as a credible commitment to lower prices for applications. Third, higher expected product variety may lead to higher demand for his application. Results carry over to non-software platforms and, partially, to upstream and downstream firms. The model also explains why Microsoft Office is priced significantly higher than Microsoft’s operating system.

JEL classification: D41, D43, L13, L86
Keywords: Platforms, Entry, Complementary Goods, Price Commitment, Product Variety, Microsoft, Vertical Integration, Two-Sided Markets

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523SFB.pdf

Foreclosure Auctions

Abstract:

We develop a novel theory of real estate foreclosure auctions, which have the special feature that the lender acts as a seller for low and as a buyer for high prices. The theory yields several empirically testable predictions concerning the strategic behavior of the agents, both under symmetric and asymmetric information. Using novel data from Palm Beach County (FL, US), we nd evidence of both strategic behavior and asymmetric information, with the lender being the informed party. Moreover, the data are consistent with moral hazard in mortgage securitization: banks collect less information about the value of the mortgage collateral.

JEL classification: C72, D44, D82, G21
Keywords: Foreclosure Auctions, Asymmetric Information, Bunching, Discontinuous Strategies, Securitization

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522SFB.pdf

Crises and Rating Agencies: On the Effect of Aggregate Uncertainty on Rating Agencies’ Incentives to Distort Ratings

Abstract:

We analyze a rating agency's incentives to distort ratings in a model with a monopolistic profit maximizing rating agency, a continuum of heterogeneous firms, and a competitive market of risk-neutral investors. Firms sell bonds, the value of a firm's bond is known to the firm and observable by the agency, but not by buyers. Firms can choose to get a rating. The rating agency can reveal a signal of arbitrary precision about the quality of the bond. In contrast to the existing literature, we allow aggregate uncertainty. As in the existing literature, one rating class is optimal. However, the rating agency does not choose a socially optimal cutoff: the agency is more likely to be too lenient if the distribution of aggregate uncertainty has a lower mean, a higher variance, and is more left skewed. It is more likely to be too strict if the opposite holds.

JEL classification: C72, D42, D82, G20
Keywords: Rating Agencies, Certification, Aggregate Uncertainty

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521SFB.pdf

Undiscounted Bandit Games

Abstract:

We analyze continuous-time games of strategic experimentation with two-armedbandits when there is no discounting. We show that for all specifications of priorbeliefs and payoff-generating processes that satisfy some separability condition, the unique symmetric Markov perfect equilibrium can be computed in a simple closed form involving only the expected current payoff of the risky arm and the expected full-information payoff, given current information. The separability condition holds in a variety of models that have been explored in the literature, all of which assume that the risky arm’s expected payoff per unit of time is time-invariant and actual payoffs are generated by a process with independent and stationary increments. The separability condition does not hold when the expected payoff per unit of time is subject to state-switching.

JEL classification: C73, D83
Keywords: Strategic Experimentation, Two-Armed Bandit, Markov-Perfect Equilibrium

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520c.pdf

Merger Policy in a Quantitative Model of International Trade

Abstract:

In a two-country international trade model with oligopolistic competition, we study the conditions on market structure and trade costs under which a merger policy designed to benefit domestic consumers is too tough or too lenient from the viewpoint of the foreign country. Calibrating the model to match industry-level data in the U.S. and Canada, we show that at present levels of trade costs merger policy is too tough in the vast majority of sectors. We also quantify the resulting externalities and study the impact of different regimes of coordinating merger policies at varying levels of trade costs.

JEL classification: F12, F13, L13, L44
Keywords: Mergers and Acquisitions, Merger Policy, Trade Policy, Oligopoly, International Trade

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519SFB.pdf

Repeated Implementation

Abstract:

We prove that a social choice function is repeatedly implementable if and only if it is dynamically monotonic when the number of agents is at least three. We show how to test dynamic monotonicity by building an associated repeated game. It follows that a weaker version of Maskin monotonicity is necessary and sufficient among the social choice functions that are efficient. As an application, we show that utilitarian social choice functions, which can only be one-shot implemented with side-payments, are repeatedly implementable, as continuation payoffs can play the role of transfers. Under some additional assumptions, our results also apply when the number of agents is two.

JEL classification: C73, D71
Keywords: Mechanism Design, Dynamic Monotonicity, Efficiency, Repeated Implementation, Repeated Games, Approximation of the Equilibrium Set, Sufficient and Necessary Condition

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518SFB.pdf

Believing when Credible: Talking about Future Plans and Past Actions

Abstract:

We explore in an equilibrium framework whether games with multiple Nash equilibria are easier to play when players can communicate. We consider two variants, modelling talk about future plans and talk about past actions. The language from which messages are chosen is endogenous, messages are allowed to be vague. We focus on equilibria where messages are believed whenever possible, thereby develop a theory of credible communication. Predictions confirm the longstanding intuition for Aumann’s (1990) Stag Hunt game which applies directly to an investment game with positive spillovers. Our results shed new light on the multiplicity of equilibria in economic applications.

JEL classification: C72, D83
Keywords: Pre-Play Communication, Cheap Talk, Credibility, Coordination, Language, Multiple Equilibria.

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517SFB.pdf

Incentives and Information as Driving Forces of Default Effects

Abstract:

The behavioral relevance of non-binding defaults is well established. While most research has focused on decision makers’ responses to a given default, we argue that this individual decision making perspective is incomplete. Instead, a comprehensive understanding of default effects requires to take account of the strategic interaction between default setters and decision makers. We analyze theoretically and empirically which defaults emerge in such interactions, and under which conditions defaults are behaviorally most relevant. Our analysis demonstrates that the alignment of interests between default setters and decision makers, as well as their relative level of information are key drivers of default effects. In particular, default effects are more pronounced if the interests of the default setter and decision makers are more closely aligned. Moreover, decision makers are more likely to follow default options the less they are privately informed about the relevant decision environment.

JEL classification: D03, D18, D83, C92
Keywords: Default Options, Behavioral Economics, Strategic Communication, Laboratory Experiment

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516SFB.pdf

Defaults and Donations: Evidence from a Field Experiment

Abstract:

We study how website defaults affect consumer behavior in the domain of charitable giving. In a field experiment that was conducted on a large platform for making charitable donations over the web, we exogenously vary the default options in two distinct choice dimensions. The first pertains to the primary donation decision, namely, how much to contribute to the charitable cause. The second relates to an "add-on" decision of how much to contribute to supporting the online platform itself. We find a strong impact of defaults on individual behavior: in each of our treatments, the modal positive contributions in both choice dimensions invariably correspond to the specified default amounts. Defaults, nevertheless, have no impact on aggregate donations. This is because defaults in the donation domain induce some people to donate more and others to donate less than they otherwise would have. In contrast, higher defaults in the secondary choice dimension unambiguously induce higher contributions to the online platform.

JEL classification: C93, D03, D64
Keywords: Default Options, Online Platforms, Charitable Giving, Field Experiment

Full text in pdf format:

515SFB.pdf

Democratic Redistribution and Rule of the Majority

Abstract:

Does redistribution in democracies cater to the will of the majority? We propose a direct empirical strategy based on survey data that needs not assume that voters are guided by pecuniary motives alone. We find that most democracies implement the median voter’s preferred amount of redistribution and the probability to serve the median voter increases with the quality of democracy. However, there is a non-negligible share of democracies that implement a minority-backed amount of redistribution. Political absenteeism of the poor cannot explain such outcomes. Rather, they can be explained by the electoral bundling of redistribution with values and rights issues.

JEL classification: D3, D7, H1, P16
Keywords: Redistribution, Democracy, Median-voter theorem, Inequality

Full text in pdf format:

514_01.pdf

Weak Markets, Strong Teachers: Recession at Career Start and Teacher Effectiveness

Abstract:

How do alternative job opportunities affect teacher quality? We provide the first causal evidence on this question by exploiting business cycle conditions at career start as a source of exogenous variation in the outside options of potential teachers. Unlike prior research, we directly assess teacher quality with value-added measures of impacts on student test scores, using administrative data on 33,000 teachers in Florida public schools. Consistent with a Roy model of occupational choice, teachers entering the profession during recessions are significantly more effective in raising student test scores. Results are supported by placebo tests and not driven by differential attrition.

Full text in pdf format:

513_02.pdf

Network Effects and Switching Costs in the US Wireless Industry

Abstract:

I develop an empirical framework to disentangle different sources of consumer
inertia in the US wireless industry. The use of a detailed data set allows me to
identify preference heterogeneity from consumer type-specific market shares and switching costs from churn rates. Identification of a localized network effect comes from comparing the dynamics of distinct local markets. The central condition for identification is that neither the characteristics defining consumer heterogeneity nor the characteristics defining reference groups are a (weak) subset of the other. Being able to separate switching costs and network effects is important as both can lead to inefficient consumer inertia, but depending on its sources policy implications may be very different. Estimates of switching costs range from US-$ 316 to US-$ 630. The willingness to pay for a 20%-point increase in an operator’s market share is on average US-$ 22 per month. My counterfactuals illustrate that both effects are important determinants of consumers’ price elasticities potentially translating into market power that helps large carriers in defending their dominant position.


Full text in pdf format:

512.pdf

Languages, Fees and the International Scope of Patenting

Abstract:

This paper analyzes firms’ choices regarding the geographic scope of patent protection within the European patent system. We develop an econometric model at the patent level to quantify the impact of office fees and translation costs on firms’ decision to validate a patent in a particular country once it has been granted by the EPO. These costs have been disregarded in previous studies. The results suggest that both translation costs and fees for validation and renewals have a strong influence on the behavior of applicants.

JEL Classification: O30, O31, O38, O57

Keywords: patents, patent fees, patent validation, renewal fees, translation costs

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511.pdf

Licensing Innovations: The Case of the Inside Patent Holder

Abstract:

The present paper reconsiders the inside innovators’ licensing problem under incomplete information. Employing an optimal mechanism design approach, we show that, contrary to what is claimed in the literature, the optimal mechanism may prescribe fixed fees, royalty rates lower than the cost reduction, and even negative royalty rates.

Keywords: Innovation, licensing, industrial organization.

JEL Classification: D21, D43, D44, D45

Full text in pdf format:

510.pdf

Mediated Audits

Abstract:

I study the optimal audit mechanism when the principal cannot commit to an audit strategy. Invoking a revelation principle, the agent reports her type to a mediator who assigns contracts and recommends the principal whether to audit. For each reported type the mediator randomizes over a base-contract and the audit contract, accompanied by a recommendation to audit. For large penalties the optimal mechanism uses strictly more contracts than types and cannot be implemented via offering a menu of contracts. The analysis provides a proper benchmark for studying auditing under limited commitment and sheds new light on the usefulness of mediation in contracting and on the design of optimal mechanisms.

JEL classification: D82, D86, C72
Keywords: Auditing, limited commitment, mediation, contract theory

Full text in pdf format:

509.pdf

Electoral cycles in savings bank lending

Abstract:

We provide evidence that German savings banks – where local politicians are by law involved in their management – systematically adjust lending policies in response to local electoral cycles. The different timing of county elections across states and the existence of a control group of cooperative banks – that are very similar to savings banks but lack their political connectedness – allow for clean identification of causal effects of county elections on savings banks’ lending. These effects are economically meaningful and robust to various specifications. Moreover, politically induced lending increases in incumbent party entrenchment and in the contestedness of upcoming elections.

Keywords: Bank lending cycles, political business cycles, political connectedness, public banks, government ownership of firms

JEL classification: G21, D72, D73

Full text in pdf format:

508.pdf

The Role of Communication of Performance Schemes: Evidence from a Field Experiment

Abstract:

In corporate practice, incentive schemes are often complicated even for simple tasks. Hence, the way they are communicated might matter. In a controlled field experiment, we study a minimally invasive change in the communication of a well-established incentive scheme - a reminder regarding the piece rate at the beginning of the shift. The experiment was conducted in a large firm where experienced managers work in a team production setting and where incentives for both quantity and quality of output are provided. While the treatment conveyed no additional material information and left the incentive system unchanged, it had significant positive effects on quantity and on managers' compensation. These effects are economically sizable and robust to alternative empirical specifications. We consider various potential mechanisms, where our preferred explanation - improved salience of incentives - is consistent with all of the findings.

Keywords: incentives, attention, salience, communication, field experiment

JEL classification: M52, J30, D03, D80

Full text in pdf format:

507.pdf

Size Matters - “Over”investments in a Relational Contracting Setting

Abstract:

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”.

JEL Codes: C73, D21, D86, G32

Keywords: relational contracts, corporate finance, capital investments

Full text in pdf format:

506.pdf

Price discontinuities in an online market for used cars

Abstract:

We use more than 63,000 datapoints from a German used car market website to document systematic and substantial price drops at vintage (= year of first registration) thresholds and 10,000 km odometer marks. The latter finding replicates the findings in Lacetera et al. (2012), whereas the first dimension cannot be analyzed with their US data because only German cars have such legally mandated and regulated “birthdates”. Hence we have the unique opportunity to study the presence of coarse information processing within the same dataset and decision problem but across two separate domains. We document that discontinuities in these two domains are of comparable size. While Lacetera et al. (2012) explain their result with a left-digit bias in the processing of numerical information, vintage discontinuities cannot be explained by this. We propose a slightly more general model of information prominence and availability bias to accommodate our findings.

Keywords: Complex Goods; Price Discontinuities; Information Neglect; Heuristics; Field Study

JEL classification: D12, D83, L 62

Full text in pdf format:

505.pdf

Reciprocity in Organisations - Evidence from the UK

Abstract:

Recent laboratory evidence suggests that personality traits, in particular social preferences, may affect contractual outcomes under moral hazard. Using the British Workplace Employment Relations Survey 2004 we find that behaviour of employers and employees is consistent with the presence of gift-exchange motives: firms that screen applicants for personality are less likely to pay low wages and more likely to provide (non-pecuniary) benefits. Firms likewise benefit from employee screening as they can implement more team-working and are generally more successful. Other human resource management practices only poorly predict these patterns. Moreover, there is no association between dismissals and personality tests, indicating that personality tests do not merely improve the fit between applicant and employer. Hence, we conclude that motivation based on gift-exchange motives is a plausible explanation for our results.

Keywords: Reciprocity, Organisational Structure, Employee Compensation

JEL Classification: D22, M52

Full text in pdf format:

504.pdf

Complementarities of HRM Practices - A Case for Employing Multiple Methods and Integrating Multiple Fields

Abstract:

We provide an overview over different literature streams that aim at explaining the origin of persistent productivity differences across organizations by variation in the use of management practices. We focus on human resource management (HRM) practices, document gaps in the literature, and show how insights from behavioral economics can inform the analysis. To this end, we develop a simple agency model illustrating how social preferences influence the design and impact of incentive schemes, investigate how auxiliary HRM practices can strengthen this interaction, and provide an overview over empirical investigations of this questions. Finally, we identify avenues for further research in this field.

Keywords: Complementarities; HRM practices; Method mix; Social preferences; Persistent Productivity Differences.

JEL Classification Numbers: D22, M50, M52.

Full text in pdf format:

503-1.pdf

Parental background matters: Intergenerational mobility and assimilation of Italian immigrants in Germany

Abstract:

We investigate the hypothesis of failed integration and low social mobility of immigrants. An intergenerational assimilation model is tested empirically on household survey data and validated against administrative data provided us by the Italian Embassy in Germany. Although we confirm substantial inequality of educational achievements between immigrants and natives, we find that the children of Italian immigrants exhibit high intergenerational mobility and no less opportunities than natives to achieve high schooling degrees. These findings suggest a rejection of the failed assimilation hypothesis. Additionally, we evaluate different patterns by time of arrival, Italian region of origin and language spoken at home.

Keywords: Intergenerational Mobility; Education; Integration and Assimilation of Immigrants.

JEL Classification: I24, J15, J62.

Full text in pdf format:

502.pdf

Delegating Pricing Power to Customers: Pay What You Want or Name Your Own Price?

Abstract:

Pay What You Want (PWYW) and Name Your Own Price (NYOP) are customerdriven pricing mechanisms that give customers (some) pricing power. Both have been used in service industries with high fixed capacity costs in order to appeal to additional customers by reducing prices without setting a reference price. In this experimental study we compare the functioning and the performance of these two pricing mechanisms. We show that both mechanisms can be successfully used to endogenously price discriminate. PWYW can be very successful if there is an additional promotional benefit to using PWYW and if marginal costs are not too high. PWYW is a very aggressive competitive strategy that achieves almost full market penetration. NYOP is a less aggressive strategy that can also be used if marginal costs are high. It reduces price competition and segments the market. Low valuation customers are more likely to use NYOP while high valuation customers prefer a posted price seller.

JEL Classification Numbers: D03, D21, D22, D40, L11, M31

Keywords: Customer-driven pricing mechanisms; Pay What You Want; Name Your Own Price; Competitive Strategies; Marketing; Laboratory Experiment.

Full text in pdf format:

501.pdf

Who goes first? Strategic Delay and Learning by Waiting

Abstract:

This paper considers a "war of attrition" game in which agents learn about an uncertain state of the world through private signals and from their peers. I provide existence and uniqueness results for a class of equilibria that satisfy a \full-participation" condition, and show that asymmetries in the distribution of information can lead to excessive stopping and an oversupply of information relative to the social optimum.

Full text in pdf format:

500.pdf

Portfolio Considerations in Differentiated Product Purchases: An Application to the Japanese Automobile Market

Abstract:

Consumers often purchase more than one differentiated product, assembling a portfolio, which might potentially affect substitution patterns of demand and, as a consequence, oligopolistic firms’ pricing strategies. To study such consumers’ portfolio considerations, this paper develops and estimates a structural model that allows for flexible complementarities/substitutabilities, using Japanese household-level data on automobile purchases. My estimates suggest that complementarities arise when households purchase a combination of one small automobile and one minivan as their portfolio.

Simulation results suggest that, due to such portfolio considerations, a policy proposal of repealing the current tax subsidies for small eco-friendly automobiles would not necessarily sharply decrease the demand.

Keywords: Multiple Discrete Choices, Complementarities, Environmental Policy

JEL Classification: D43, L13, L62, Q58

Full text in pdf format:

499.pdf

How Does Socio-Economic Status Shape a Child's Personality?

Abstract:

We show that socio-economic status (SES) is a powerful predictor of many facets of a child's personality. The facets of personality we investigate encompass time preferences, risk preferences, and altruism, as well as crystallized and fluid IQ. We measure a family's SES by the mother's and father's average years of education and household income. Our results show that children from families with higher SES are more patient, tend to be more altruistic and less likely to be risk seeking, and score higher on IQ tests. We also discuss potential pathways through which SES could affect the formation of a child's personality by documenting that many dimensions of a child's environment differ systematically by SES: parenting style, quantity and quality of time parents spend with their children, the mother's IQ and economic preferences, a child's initial conditions at birth, and family structure. Finally, we use panel data to show that the relationship between SES and personality is fairly stable over time at age 7 to 10. Personality profiles that vary systematically with SES might offer an explanation for social immobility.

Keywords: personality, human capital, risk preferences, time preferences, altruism, experiments with children, origins of preferences, social immobility, socio-economic status.

JEL Classification: C90, D64, D90, D81, J13, J24, J62.

Full text in pdf format:

498.pdf

A simple way to identify the degree of collusion under proportional reduction

Abstract:

Proportional reduction is a common cartel practice, in which cartel members reduce their output by the same percentage. We develop a simple method to quantify this reduction relative to a benchmark market equilibrium scenario. Our measure is continuous, has a simple interpretation as the “degree of collusion" and nests the earlier models in the existing literature. More importantly, by exploiting firms ex post heterogeneity and optimality conditions, Corts (1999) critique can be addressed by estimating time-varying degree of industry monopolization from a short panel of firm-level observations. We illustrate the method in Monte-Carlo simulations and in application to the data from the Joint Executive Committee railroad cartel.

Keywords: Cartel, Proportional Reduction, Degree of collusion.

JEL Classification: D22, L41, C36.

Full text in pdf format:

497.pdf

Exploring the Opaqueness of the Patent System - Evidence from a Natural Experiment

Abstract:

One of the objectives of patent systems is to disclose information which other agents can build on in further inventions and in their decision-making. While some observers take it as given that real-world patent systems serve this objective, we argue in this article that patent systems are highly opaque and likely to be of limited value as a source of information. We use data from a natural experiment to explore this issue. Requests for accelerated examination used to be publicly observable at the European Patent Office (EPO). Starting in December 2001, the EPO started to treat these requests as confidential information. Using data on acceleration requests which were historically known only to the applicant and the EPO, and later provided to us, we test whether the change in the information regime impacted the actions of applicants and their rivals. We develop a theoretical model of acceleration requests and patent opposition to identify the extent to which the patent system is opaque. We confirm empirically that opposition and acceleration rates of high-value patents change significantly in most technological areas once acceleration requests become unobservable. We interpret these results as evidence that the system is highly opaque in many fields.

JEL Classification: K40, L00

Keywords: patent value; opaqueness; accelerated examination; patent opposition; European Patent Office (EPO).

Full text in pdf format:

496.pdf

Manager Characteristics and Credit Derivative Use by U.S. Corporate Bond Funds

Abstract:

This study provides a comprehensive overview of the use of credit default swaps by U.S. corporate bond funds and analyzes in detail whether certain characteristics of managers, in addition to the fundamentals of a fund, determine how their use these credit derivatives. Results suggest that a manager’s education, age, experience, and skill are positively correlated with a fund’s CDS holdings. In particular, managers holding a master’s degree or educated at prestigious universities prefer using CDS. However, funds with older, more experienced managers or these keeping higher assets under their management are more likely to take on credit risk via selling CDS protection. Younger managers or managers that were educated at prestigious universities rather tend to buy CDS protection possibly due to differing concerns about their careers. If considering the Heckman correction for self-selection of funds into CDS use, the aforementioned findings remain stable.

JEL Classification: G23, G28

Keywords: Manager, manager characteristic, mutual fund, derivative use, credit default swap

Full text in pdf format:

495.pdf

Loss Potential and Disclosures Related to Credit Derivatives – A Cross-Country Comparison of Corporate Bond Funds under U.S. and German Regulation

Abstract:

This study analyzes the loss potential arising from investments into CDS for a sample of large U.S. and German mutual funds. Further, it investigates whether the comments funds make on CDS use in periodic fund reports are consistent with the disclosed CDS holdings. For several funds in the U.S., the potential losses arising from selling CDS protection are almost as high as net assets, while in Germany, this potential can be even higher. Regarding the information funds provide to investors about their use of CDS, the results of the study suggest that comments on CDS contained in periodic reports are often unspecific and sometimes misleading. Thus, investors might have to analyze portfolio holdings in order to learn about the true investment behavior of funds. For instance, in Germany, funds that use more short than long CDS often state that they only use long CDS for hedging purposes. Based on the results, it seems advisable that regulators in both countries tighten rules restricting the speculative use of derivatives by funds to a reasonable level, as well as implement more standardized disclosure policies.

JEL-Classification: G11, G15, G23, G28

Keywords: Mutual funds, leverage, derivative, credit default swaps, disclosure

Full text in pdf format:

494.pdf

Asymmetric price adjustments: A supply side approach

Abstract:

Using a model of dynamic price competition, this paper provides an explanation from the supply side for the well-established observation that retail prices adjust faster when input costs rise than when they fall. The opportunity of profitable storing for the next period induces competitive firms to immediately increase their prices in anticipation of higher future input costs. This relaxes competition and firms earn positive profits. Conversely, when input costs are expected to decline, firms adjust their prices only after a cost reduction materializes, and the firms' incentives for price undercutting lead to the standard Bertrand outcome.

Keywords: Asymmetric price adjustments, Bertrand-Edgeworth competition, Storage, Gasoline market.

JEL Classification: D4, L1.

Full text in pdf format:

493.pdf

Re-Mapping Credit Ratings

Abstract:

Rating agencies report ordinal ratings in discrete classes. We question the market’s implicit assumption that agencies define their classes on identical scales, e.g., that AAA by Standard & Poor’s is equivalent to Aaa by Moody’s. To this end, we develop a non-parametric method to estimate the relation between rating scales for pairs of raters. For every rating class of one rater this, scale relation identifies the extent to which it corresponds to any rating class of another rater, and hence enables a rating-class specific re-mapping of one agency’s ratings to another’s. Our method is based purely on ordinal co-ratings to obviate error-prone estimation of default probabilities and the disputable assumptions involved in treating ratings as metric data. It estimates all rating classes’ relations from a pair of raters jointly, and thus exploits the information content from ordinality.

We find evidence against the presumption of identical scales for the three major rating agencies Fitch, Moody’s and Standard & Poor’s, provide the relations of their rating classes and illustrate the importance of correcting for scale relations in benchmarking.

Key words: credit rating, rating agencies, rating scales, comparison of ratings

JEL: C14, G24

Full text in pdf format:

492.pdf

Innovation strategies and stock price informativeness

Abstract:

This paper models the interactions among technological innovation, product market competition and information leakage via the stock market. There are two firms who compete in a product market and have an opportunity to invest in a risky technology either early on as a leader or later once stock prices reveal the value of the technology. Information leakage thus introduces an option of waiting, which enhances production efficiency. A potential leader may nevertheless be discouraged from investing upfront, when anticipating its competitor to invest later in response to good news. I show that an increase in product market competition increases the option value of waiting but has an ambiguous effect on information production. It may thus be the case that intense competition leads to more leakage such that no firm would invest, especially so in a smaller market. Given a moderate level of competition, price informativeness may also improve investment outcome when investment profitability and the market size are relatively large. The model predicts that, under these conditions, the investment of a follower firm is more sensitive to share price movements.

JEL Classification Code: G14, G31, D43

Keywords: Price efficiency; Information leakage; Innovation; Feedback

Full text in pdf format:

491.pdf

The Impact of Credit Default Swap Trading on Loan Syndication

Abstract:

We analyze the impact of CDS trading on bank syndication activity. Theoretically, the effect of CDS trading is ambiguous: on the one hand, CDS can improve risk-sharing and hence be a more flexible risk management tool than loan syndication; on the other hand, CDS trading can reduce bank monitoring incentives. We document that banks are less likely to syndicate loans and retain a larger loan fraction once CDS are actively traded on the borrower’s debt. We then discern the risk management and the moral hazard channel. We find no evidence that the reduced likelihood to syndicate loans is a result of increased moral hazard problems.

Keywords: Loan Sales, Credit Default Swaps, Syndicate Structure, Syndicated Loans

JEL-Classification: G21, G32

Full text in pdf format:

490.pdf

The Total Costs of Corporate Borrowing in the Loan Market: Don’t Ignore the Fees

Abstract:

More than 80% of US syndicated loans contain at least one fee type and contracts typically specify a menu of spread and different types of fees. We test the predictions of existing theories about the main purposes of fees and provide supporting evidence that: (1) fees are used to price options embedded in loan contracts such as the draw-down option for credit lines and the cancellation option in term loans; and (2) fees are used to screen borrowers about the likelihood of exercising these options. We also propose a new total-cost-of-borrowing measure that includes various fees charged by lenders.

Full text in pdf format:

489.pdf

Does contingent capital induce excessive risk-taking?

Abstract:

In this paper, we analyze the effect of the conversion price of CoCo bonds on equity holders' incentives. First, we use an option-pricing context to show that CoCo bonds can magnify equity holders' incentives to increase the riskiness of assets and decrease incentives to raise new equity in a crisis in cases in which conversion transfers wealth from CoCo bond holders to equity holders. Second, we present a clinical study of the CoCo bonds issued so far. We show that i) almost all existing CoCo bonds are designed in a way that implies a wealth transfer from CoCo bond holders to equity holders at conversion and ii) this contractual design is reflected in traded prices of CoCo bonds. In particular, CoCo bonds are short volatility with a magnitude five times greater than that which can be observed for straight bonds. These results are robust and economically significant. We conclude that the CoCo bonds issued so far can create perverse incentives for banks' equity holders.

Keywords: Contingent capital, banking regulation, risk-taking incentives, asset substitution, debt overhang, credit crunch

Full text in pdf format:

488.pdf

Pricing a Package of Services - When (not) to bundle

Abstract:

We study a tractable two-dimensional model of price discrimination. Consumers combine a rigid with a more flexible choice, such as choosing the location of a house and its quality or size. We show that the optimal pricing scheme involves no bundling if consumer types are affiliated. Conversely, if consumer types are negatively affiliated over some portion of types then some bundling occurs.

JEL classification: D42, D82, D86

Keywords: Price discrimination, Bundling, Monopoly, Multidimensional screening

Full text in pdf format:

487.pdf

Managerial Incentive Problems and Return Distributions

Abstract:

We study a model of managerial incentive problems where a manager chooses the first two moments of his firm’s profit distribution - mean and volatility - along an efficient frontier. Assuming that managers differ with respect to their marginal cost of effort and their risk aversion we explore our model’s comparative statics predictions in full detail. If managers’ preference parameters are commonly known and associated, then a positive correlation between expected returns, volatility of profits, and incentives is the natural outcome. Allowing in addition for adverse selection with respect to the managers’ preference parameters does not change the predicted correlation if the variation in observed contracts is not too large. Moreover, observed incentive schemes reflect exclusion of some manager types. Neglecting the endogeneity of risk in empirical studies biases estimates towards zero.

JEL Classification: D82, J33

Keywords: Managerial incentive problems, comparative statics, multidimensional heterogeneity, multidimensional screening

Full text in pdf format:

486.pdf

Learning faster or more precisely? Strategic experimentation in networks

Abstract:

The paper analyzes a dynamic model of rational strategic learning in a network. It complements existing literature by providing a detailed picture of short-run dynamics in a game of strategic experimentation where agents are located in a social network. We show that the delay in information transmission caused by incomplete network structures may induce players to increase own experimentation efforts. As a consequence a complete network can fail to be optimal even if there are no costs for links. This means that in the design of networks there exists a trade-off between the speed of learning and accuracy.

Key Words: Strategic Experimentation, Networks, Learning

JEL codes: C73, D83, D85

Full text in pdf format:

485.pdf

Auctions vs. Negotiations: The Effects of Inefficient Renegotiation

Abstract:

For the procurement of complex goods the early exchange of information is important to avoid costly renegotiation ex post. We show that this is achieved by bilateral negotiations but not by auctions. Negotiations strictly outperforms auctions if sellers are likely to have superior information about possible design improvements, if renegotiation is costly, and if the buyer's bargaining position is sufficiently strong. Moreover, we show that negotiations provide stronger incentives for sellers to investigate possible design improvements than auctions. This provides an explanation for the widespread use of negotiations as a procurement mechanism in private industry.

JEL classification numbers: D03; D82; D83; H57.

Keywords: Auctions; Negotiations; Procurement; Renegotiation; Adaptation Costs; Loss Aversion; Behavioral Contract Theory.

Full text in pdf format:

484.pdf

Credence Goods, Costly Diagnosis, and Subjective Evaluation

Abstract:

We study contracting between a consumer and an expert. The expert can invest in diagnosis to obtain a noisy signal about whether a low–cost service is sufficient or whether a high–cost treatment is required to solve the consumer’s problem. This involves moral hazard because diagnosis effort and signals are not observable. Treatments are contractible, but success or failure of the low–cost treatment is observed only by the consumer. Payments can therefore not depend on the objective outcome but only the consumer’s report, or subjective evaluation. A failure of the low–cost treatment delays the solution of the consumer’s problem by the high–cost treatment to a second period. We show that the first–best solution can always be implemented if the parties’ discount rate is zero; an increase in the discount rate reduces the range of parameter combinations for which the first–best can be obtained. In an extension we show that the first–best is also always implementable if diagnosis and treatment can be separated by contracting with two different agents.

Keywords: credence goods, information acquisition, moral hazard, subjective evaluation
JEL Classification No.: D82, D83, D86, I11,

Full text in pdf format:

483_01.pdf

Trade in Tasks and the Organization of Firms

Abstract:

We incorporate trade in tasks à la Grossman and Rossi-Hansberg (2008) into a small open economy version of the theory of firm organization of Marin and Verdier (2012) to examine how offshoring affects the way firms organize. We show that the offshoring of production tasks leads firms to reorganize with a more decentralized management, improving the competitiveness of the offshoring firms. We show further that the offshoring of managerial tasks relaxes the constraint on managers but toughens competition, and thus has an ambiguous impact on the level of decentralized management and CEO wages of the offshoring firms. In sufficiently open economies, however, managerial offshoring unambiguously leads to more decentralized management and to larger CEO wages. We test the predictions of the model based on original firm level data we designed and collected of 660 Austrian and German multinational firms with 2200 subsidiaries in Eastern Europe. We find that offshoring firms are 33.4% more decentralized than non-offshoring firms. We find further that the average fraction of managers offshored reduces the level of decentralized management by 3.1%, but increases the level of decentralized management by 4% in industries with a level of openness above the 25th percentile of the openness distribution. Lastly, we find that one additional offshored manager lowers CEO wages relative to workers by 4.9%.

Keywords: international trade with endogenous organizations, the rise of human capital, theory of the firm, multinational firms, CEO pay

JEL classification: F12, F14, L22, D23

Full text in pdf format:

482.pdf

Informational opacity and honest certification

Abstract:

This paper studies the interaction of information disclosure and reputational concerns in certification markets. We argue that by revealing less precise information a certifier reduces the threat of capture. Opaque disclosure rules may reduce profits but also constrain feasible bribes. For large discount factors a certifier is unconstrained in the choice of a disclosure rule and full disclosure maximizes profits. For intermediate discount factors, only less precise, such as noisy, disclosure rules are implementable. Our results suggest that contrary to the common view, coarse disclosure may be socially desirable. A ban may provoke market failure especially in industries where certifier reputational rents are low.

Keywords: Certification; Bribery; Reputation

JEL Classification Numbers: L15; D82; L14; L11

Full text in pdf format:

481.pdf

Optimal incentive contracts to avert firm relocation

Abstract:

A unilateral policy intervention by a country (such as the introduction of an emission price) can induce firms to relocate to other countries. We analyze a dynamic game where a regulator offers contracts to avert relocation of a firm in each of two periods. The firm can undertake a location-specific investment (e.g., in abatement capital). Contracts can be written on some contractible productive activity (e.g., emissions), but the firm's investment is not contractible. A moral hazard problem arises under short-term contracting that makes it impossible to implement outcomes with positive transfers in the second period. The regulator resorts to high-powered incentives in the first period. The firm then overinvests and a lock-in effect prevents relocation in both periods. Paradoxically, the distortion in the firstperiod contract can be so severe that higher transfers are needed to avert relocation compared to a (hypothetical) situation without the investment opportunity.

Keywords: moral hazard; contract theory; limited commitment; firm mobility; abatement capital

JEL classification: D82, D86, L51, Q58

Full text in pdf format:

480.pdf

Smooth, strategic communication

Abstract:

We study strategic information transmission in a Sender-Receiver game where players' optimal actions depend on the realization of multiple signals but the players disagree on the relative importance of each piece of news. We characterize a statistical environment - featuring symmetric loss functions and elliptically distributed parameters - in which the Sender's expected utility depends only on the first moment of his posterior. Despite disagreement about the use of underlying signals, we demonstrate the existence of equilibria in differentiable strategies in which the Sender can credibly communicate posterior means. The existence of smooth communication equilibria depends on the relative usefulness of the signal structure to Sender and Receiver, respectively. We characterize extensive forms in which the quality of information is optimally designed of equal importance to Sender and Receiver so that the best equilibrium in terms of ex ante expected payoffs is a smooth communication equilibrium. The quality of smooth equilibrium communication is entirely determined by the correlation of interests. Senders with better aligned preferences are endogenously endowed with better information and therefore give more accurate advice.

Keywords: strategic information transmission, multi-dimensional cheap talk, monotone strategies, endogenous information, elliptical distributions

JEL: D82

Full text in pdf format:

479.pdf

The Merger-Paradox: A Tournament-Based Solution

Abstract:

According to the well-known “merger paradox”, in a Cournot market game mergers are generally unprofitable unless most firms merge. The present paper proposes an optimal merger mechanism. With this mechanism mergers are never unprofitable, more profitable than in other known mechanism, and in many cases welfare increasing. The proposed mechanism assumes that merged firms continue to operate as independent subsidiaries that are rewarded according to a simple and commonly observed relative performance measure.

Keywords: Mergers, multi-divisional firms, tournaments, industrial organization.

JEL Classifications: L00, D4

Full text in pdf format:

478.pdf

Automobile Prices in Market Equilibrium with Unobserved Price Discrimination

Abstract:

This paper deals with the estimation of structural models of demand and supply with incomplete information on prices. When the seller is able to price discriminate, or the buyer to bargain, individuals pay different prices that are usually not collected in the data. This paper explores a method to estimate the supply and demand models jointly when only posted prices are observed. We consider that heterogenous transaction prices occur due to price discrimination by firms on observable characteristics of consumers. Within this framework, the identification is secured by (i) supposing that at least one group of individuals does pay the posted prices and (ii) assuming that the marginal costs of producing and selling the goods does not depend on the characteristics of the buyers. This methodology is applied to estimate the demand in the new automobile market in France. Results suggest that discounting arising from price discrimination is important. The average discount is estimated to be 5.2%, with large variation according to the buyers’ characteristics. Our results are in line with discounts generally observed in European and American automobile markets.

Full text in pdf format:

477.pdf

Hold-Up and the Use of Performance-Sensitive Debt

Abstract:

We examine whether performance-sensitive debt (PSD) is used to reduce hold-up problems in long-term lending relationships. We find that the use of PSD is more common in the presence of a long-term lending relationship and if the borrower has fewer financing alternatives available. In syndicated deals, however, the presence of a relationship lead arranger reduces the use of PSD, which is consistent with hold-up being of lesser concern in such cases. Further, supporting our hypothesis that hold-up concerns motivate the use of PSD, we find a substitution effect between the use of PSD and the tightness of financial covenants.

Keywords: Performance-sensitive debt, relationship lending, hold-up, holdout, syndicated debt, covenants

JEL-Classification: G21, G31, G32

Full text in pdf format:

476.pdf

Managerial Optimism and Debt Contract Design: The Case of Syndicated Loans

Abstract:

We examine the impact of managerial optimism on the inclusion of performance-pricing provisions in syndicated loan contracts (PSD). Optimistic managers may view PSD as a relatively cheap form of financing given their upwardly biased expectations about the firm’s future cash flow. Indeed, we find that optimistic managers are more likely to issue PSD, and choose contracts with greater performance-pricing sensitivity than rational managers. Consistent with their biased expectations,

firms with optimistic managers perform worse than firms with rational managers after issuing PSD. Our results indicate that behavioral aspects can affect contract design in the market for syndicated loans.

Keywords: Optimism Bias, Performance-Sensitive Debt, Debt Contracting, Syndicated

Loans

JEL-Classification: G02, G30, G31, G32

Full text in pdf format:

475.pdf

Similarities and Differences between U.S. and German Regulation of the Use of Derivatives and Leverage by Mutual Funds – What Can Regulators Learn from Each Other?

Abstract:

This study analyzes current regulation with respect to the use of derivatives and leverage by mutual funds in the U.S. and Germany. After presenting a detailed overview of U.S. and German regulations, this study thoroughly compares the level of flexibility funds have in both countries. I find that funds in the U.S. and Germany face limits on direct leverage (amount of bank borrowing) of up to 33% and 10% of their net assets, respectively. Funds can extend these limits indirectly by using derivatives beyond their net assets (e.g., by selling credit default swaps protection with a notional amount equal to their net assets). Additionally, issuer-oriented rules in the U.S. and Germany account for issuer risk differently: U.S. funds have greater discretion to undervalue derivative exposure compared to German funds. All analyses of this study reveal that under existing derivative and leverage regulation, funds in both countries are able to increase risk by using derivatives up to the point at which it is possible for them to default solely due to investments in derivatives. The results of this study are highly relevant for the public and regulators.

JEL-Classification: G15, G18

Key Words: Regulation, mutual funds, leverage, derivative, credit default swaps

Full text in pdf format:

474.pdf

How Would Hedge Fund Regulation Affect Investor Behavior? Implications for Systemic Risk

Abstract:

We estimate an investors’ demand model for hedge funds to analyze the potential impact of leverage limits in the industry. Our estimation results highlight the importance of heterogeneous investor preference for the use of leverage, i.e., 20% of investors prefer leverage usage while others do not. We then conduct a policy simulation in which regulators put a cap on allowable leverage, as proposed by the Financial Stability Board in 2012. Simulation results suggest that the 200% leverage limit would lower the total demand (assets under management) for hedge funds by 10%. In particular, the regulation would lead to lower investments in highly leveraged funds and to lower investments in risky strategies, which, in turn, would reduce systemic risk.

Keywords: hedge funds, demand estimation, leverage regulation, systemic risk

JEL Classification: G38, G23, L52

Full text in pdf format:

473.pdf

Whenever and Wherever: The Role of Card Acceptance in the Transaction Demand for Money

Abstract:

The use of payment cards, either debit or credit, is becoming more and more widespread in developed economies. Nevertheless, the use of cash remains significant. We hypothesize that the lack of card acceptance at the point of sale is a key reason why cash continues to play an important role. We formulate a simple inventory model that predicts that the level of cash demand falls with an increase in card acceptance. We use detailed payment diary data from Austrian and Canadian consumers to test this model while accounting for the endogeneity of acceptance. Our results confirm that card acceptance exerts a substantial impact on the demand for cash. The estimate of the consumption elasticity (0.23 and 0.11 for Austria and Canada, respectively) is smaller than that predicted by the classic Baumol-Tobin inventory model (0.5). We conduct counterfactual experiments and quantify the effect of increased card acceptance on the demand for cash. Acceptance reduces the level of cash demand as well as its consumption elasticity.

Topics: Bank notes; Econometric and statistical methods; E-money; Financial services.

JEL Codes: E41, C35, C83.

Full text in pdf format:

472.pdf

Intermediation in Networks

Abstract:

I study intermediation in networked markets using a stochastic model of multilateral bargaining in which traders compete on different routes through the network. I characterize stationary equilibrium payoffs as the fixed point of a set of intuitive value function equations and study efficiency and the impact of network structure on payoffs. There is never too little trade but there may be an inefficiency through too much trade in states where delay would be efficient. With homogenous trade surplus the payoffs for players that are not essential to a trade opportunity go to zero as trade frictions vanish.

JEL Classification: C73, C78, L14

Keywords: bargaining, financial networks, intermediation, matching, middlemen, networks, over-the-counter markets, stochastic games

Full text in pdf format:

471.pdf

INSTITUTIONS AND THE PRESERVATION OF CULTURAL TRAITS

Abstract:

We offer a novel explanation for why some immigrant groups and minorities have persistent, distinctive cultural traits – the presence of a rigid institution. Such an institution is necessary for communities to not fully assimilate to the mainstream society. We distinguish between different types of institutions, such as churches, foreign-language media or ethnic business associations and ask what level of cultural distinction these institutions prefer. Any type of institution can have incentives to be extreme and select maximal cultural distinction from the mainstream society. If institutions choose positive cultural distinction, without being extremist, then a decrease in discrimination leads to reduced assimilation.

Full text in pdf format:

470.pdf

Strongly Symmetric Equilibria in Bandit Games

Abstract:

This paper studies strongly symmetric equilibria (SSE) in continuous-time games of strategic experimentation with Poisson bandits. SSE payoffs can be studied via two functional equations similar to the HJB equation used for Markov equilibria. This is valuable for three reasons. First, these equations retain the tractability of Markov equilibrium, while allowing for punishments and rewards: the best and worst equilibrium payoff are explicitly solved for. Second, they capture behavior of the discrete-time game: as the period length goes to zero in the discretized game, the SSE payoff set converges to their solution. Third, they encompass a large payoff set: there is no perfect Bayesian equilibrium in the discrete-time game with frequent interactions with higher asymptotic efficiency.

Keywords: Two-Armed Bandit, Bayesian Learning, Strategic Experimentation,

Strongly Symmetric Equilibrium.

JEL Classification Numbers: C73, D83.

Full text in pdf format:

469.pdf

Buyer Resistance for Cartel versus Merger

Abstract:

Procurement practices are affected by uncertainty regarding suppliers’ costs, the nature of competition among suppliers, and uncertainty regarding possible collusion among suppliers. Buyers dissatisfied with bids of incumbent suppliers can cancel their procurements and resolicit bids after qualifying additional suppliers. Recent cartel cases show that cartels devote considerable attention to avoiding such resistance from buyers. We show that in a procurement setting with the potential for buyer resistance, the payoff to firms from forming a cartel exceeds that from merging. Thus, firms considering a merger may have an incentive to collude instead. We discuss implications for antitrust and merger policy.

Full text in pdf format:

468.pdf

Optimal bid disclosure in license auctions with downstream interaction

Abstract:

The literature on license auctions for process innovations in oligopoly assumed that the auctioneer reveals the winning bid and stressed that this gives firms an incentive to signal strength through their bids, to the benefit of the innovator. In the present paper we examine whether revealing the winning bid is optimal. We consider three disclosure rules: full, partial, and no disclosure of bids, which correspond to standard auctions. We show that more information disclosure increases the total surplus divided between firms and the innovator as well as social surplus. More disclosure also increases bidders’ payoff. However, no disclosure maximizes the innovator’s expected revenue.

Keywords: Auctions, innovation, licensing, information sharing.

JEL Classifications: D21, D43, D44, D45

Full text in pdf format:

467.pdf

Bargaining and collusion in a regulatory relationship

Abstract:

We investigate regulation as the outcome of a bargaining process between a regulator and a regulated firm. The regulator is required to monitor the firm’s costs and reveal its information to a political principal (Congress). In this setting, we explore the scope for collusion between the regulator and the firm, which results in the manipulation of the regulator’s report on the firm’s costs to Congress. The firm’s benefit of collusion arises from the higher price the efficient firm is allowed to charge when the regulator reports that it is inefficient. However, a higher price reduces the gains from trade the parties can share in the bargaining process. As a result of this trade-off, the efficient firm has a stake in collusion only if the regulator’s bargaining power in the regulatory relationship is relatively high. Then, we derive the optimal institutional response to collusion and characterize the conditions under which allowing collusion is desirable

Keywords: asymmetric information, auditing, bargaining, collusion, regulation.

JEL classification: D73, D82, L51.

Full text in pdf format:

466.pdf

Identity changes and the efficiency of reputation systems

Abstract:

Reputation systems aim to induce honest behavior in online trade by providing information about past conduct of users. Online reputation, however, is not directly connected to a person, but only to the virtual identity of that person. Users can therefore shed a negative reputation by creating a new account. We study the effects of such identity changes on the efficiency of reputation systems. We compare two markets in which we exogenously vary whether sellers can erase their rating profile and start over as new sellers. Buyer trust and seller trustworthiness decrease significantly when sellers can erase their ratings. With identity changes, trust is particularly low towards new sellers since buyers cannot discriminate between truly new sellers and opportunistic sellers who changed their identity. Nevertheless, we observe positive returns on buyer investment under the reputation system with identity changes, and our evidence suggests that trustworthiness is higher than in the complete absence of a reputation system.

Keywords: trust; reputation; identity changes

JEL classification: C91, D02, L14

Full text in pdf format:

465.pdf

Mergers between regulated firms with unknown efficiency gains

Abstract:

In an industry where regulated firms interact with unregulated suppliers, we investigate the welfare effects of a merger between regulated firms when efficiency gains are uncertain before the merger and their realization becomes private information of the merged firm. The optimal merger policy trades off potential efficiency gains against regulatory distortions from informational problems. We show that, as a consequence of this trade-off, more intense competition in unregulated segments of the market induces a more lenient merger policy. However, the regulated firms' diversification into a competitive segment can lead to a more lenient merger policy when competition is weaker.

Keywords: asymmetric information, competition, efficiency gains, mergers, regulation.

JEL Classification: D82, L43, L51.

Full text in pdf format:

464_01.pdf

Dynamic Oligopoly Pricing: Evidence from the Airline Industry

Abstract:

We explore how pricing dynamics in the European airline industry vary with the competitive environment. Our results highlight substantial variations in pricing dynamics that are consistent with a theory of intertemporal price discrimination. First, the rate at which prices increase towards the scheduled travel date is decreasing in competition, supporting the idea that competition restrains the ability of airlines to price-discriminate. Second, the sensitivity to competition is substantially increasing in the heterogeneity of the customer base, reflecting further that restraints on price discrimination are only relevant if there is initial scope for price discrimination. These patterns are quantitatively important, explaining about 83 percent of the total within-flight price dispersion, and explaining 17 percent of the observed cross-market variation of pricing dynamics.

Keywords: Airline industry, capacity constraints, dynamic oligopoly pricing, intertemporal price dispersion, price discrimination.

JEL Classification: D43, D92, L11, L93.

Full text in pdf format:

463.pdf

Optimal Delegated Search with Adverse Selection and Moral Hazard

Abstract:

The paper studies a model of delegated search. The distribution of search revenues is unknown to the principal and has to be elicited from the agent in order to design the optimal search policy. At the same time, the search process is unobservable, requiring search to be self-enforcing. The two information asymmetries are mutually enforcing each other; if one is relaxed, delegated search is efficient. With both asymmetries prevailing simultaneously, search is almost surely inefficient (it is stopped too early). Second-best remuneration is shown to optimally utilize a menu of simple bonus contracts. In contrast to standard adverse selection problems, indirect nonlinear tariffs are strictly dominated.

Keywords: adverse selection, bonus contracts, delegated search, moral hazard,

optimal stopping.

JEL Classification: D82, D83, D86, C72.

Full text in pdf format:

462.pdf

Emergence and Persistence of Extreme Political Systems

Abstract:

We investigate the dynamics of political systems in a framework where transitions are driven by reforms and revolts, and where political systems are a priori unconstrained, ranging continuously from single-man dictatorships to full-scale democracies. The dynamics are governed by the likelihood of transitions and their outcome, which are both determined endogenously. We find that reforms and revolts result in extreme political systems - reforms by enfranchising the majority of the population leading to democracies, and revolts by installing autocracies. Reinforcing this polarization, extreme political systems are persistent across time: Democracies are intrinsically stable, leading to long episodes without political change. Autocracies, in contrast, are subject to frequent regime changes. Nevertheless they are persistent, since ensuing revolts lead to autocracies comparable to their predecessors. Taken together, our results suggest that the long-run distribution of political systems is bimodal with mass concentrated on the extremes. The dynamics are consistent with cross-country data.

Keywords: Endogenous dynamics of political systems, invariant distribution, persistence

of regime types, polarization, transition paths, unrestricted polity space.

JEL Classification: D74, D78, P16.

Full text in pdf format:

461.pdf

Transmission and Generation Investment in Electricity Markets: The Effects of Market Splitting and Network Fee Regimes

Abstract:

In this paper we propose a three–level computational equilibrium model that allows to analyze the impact of the regulatory environment on transmission line expansion (by the regulator) and investment in generation capacity (by private firms) in liberalized electricity markets. The basic model analyzes investment decisions of the transmission operator (TO) and private firms in expectation of an energy only market and cost-based redispatch. In different specifications we consider the cases of one versus two price zones (market splitting) and analyze different approaches to recover network cost, in particular lump sum, capacity based, and energy based fees. In order to compare the outcomes of our multi–stage market model with the first best benchmark, we also solve the corresponding integrated planer problem. In two simple test networks we illustrate that energy only markets can lead to suboptimal locational decisions for generation capacity and thus, imply excessive network expansion. Market splitting heals those problems only partially. Those results obtain for both, capacity and energy based network tariffs, although investment slightly differs across those regimes.

Keywords: Electricity markets, Network Expansion, Generation Expansion, Investment Incentives, Computational Equilibrium Models, Transmission Management

Full text in pdf format:

460.pdf

Transparency in Buyer-Determined Auctions: Should Quality be Private or Public?

Abstract:

We study non-binding procurement auctions where both price and non-price characteristics of bidders matter for being awarded a contract. The outcome of such

auctions critically depends on how information is distributed among bidders during the bidding process. As we show theoretically, whether it is in the buyer's interest to conceal or to disclose non-price information most importantly depends on how important the quality aspects of the good to be procured are to the buyer: The more important the quality aspects are to the buyer, the more interesting concealment becomes. We then empirically study the impact of a change in the information structure using data from a large European online procurement platform for different categories of goods. In a counterfactual analysis we analyze the reduction of non-price information available to the bidders. In the data we find that the choice of information structure indeed matters. Confirming the hypothesis obtained in our theoretical framework, we find that in auction categories where bidders' non-price characteristics are of little importance for the decisions of the buyers, concealment of non-price information decreases buyers' welfare by up to 6% due to reduced competitive pressure leading to higher bids. In contrast, for categories where bidders' non-price characteristics strongly influence buyers' decisions concealment of non-price information increases buyers' welfare by up to 15%.

Keywords: Procurement, Non-Binding Auctions, Supply Chain Management

Full text in pdf format:

459.pdf

Promises and Image Concerns

Abstract:

According to several psychological and economic studies, non-binding communication can be an effective tool to increase trust and enhance cooperation. This paper focuses on reasons why people stick to a given promise and analyzes to what extent image concerns of being perceived as a promise breaker play a role. In a controlled laboratory experiment, we vary the ex post observability of the promising party's action in order to test for social image concerns. We observe that slightly more promises are kept if the action is revealed than if it is not, yet the difference is not significant. However, a variation in the selection of pre-defined messages across treatments delivers another interesting finding. While most of the promises are kept, statements of intent tend to be broken.

Keywords: Promises, communication, social image concerns, guilt, shame, behavioral economics, experiment

JEL-Classification: C70, C91, D03, D82

Full text in pdf format:

458.pdf

Do Women Have More Shame than Men? An Experiment on Self-Assessment and the Shame of Overestimating Oneself

Abstract:

We analyze how subjects' self-assessment depends on whether its accuracy is observable to others. We find that women downgrade their self-assessment given observability while men do not. Women avoid the shame they may have if others observe that they overestimated themselves. Men, however, do not seem to be similarly shame-averse. This gender difference may be due to different societal expectations: While we find that men are expected to be overconfident, women are not. Shame-aversion may explain recent findings that women shy away from competition, demanding jobs and wage negotiations, as entering these situations shows a certain confidence of one's ability.

Keywords: Gender, Shame, Self-confidence, Overconfidence, Experiment

JEL-Classification: C91, D03, J16

Full text in pdf format:

457.pdf

Professional norms and physician behavior: homo oeconomicus or homo hippocraticus?

Abstract:

Physicians' treatment decisions determine the level of health care spending to a large extent. The analysis of physician agency describes how doctors trade off their own and their patients' benefits, with a third party (such as the collective of insured individuals or the taxpayers) bearing the costs. Professional norms are viewed as restraining physicians' self-interest and as introducing altruism towards the patient. We present a controlled experiment that analyzes the impact of professional norms on prospective physicians' trade-offs between her own profits, the patients' benefits, and the payers' expenses for medical care. We find that professional norms derived from the Hippocratic tradition shift weight to the patient in the physician's decisions while decreasing his self-interest and efficiency concerns.

Keywords: social preferences, allocation of medical resources, professional norms

JEL classification: A13, I19, C72, C91

Full text in pdf format:

456_01.pdf

The strategic value of partial vertical integration

Abstract:

We investigate the incentive for partial vertical integration, namely, partial ownership agreements between manufacturers and retailers, when the retailers are privately informed about their production costs and engage in differentiated good price competition. Partial vertical integration entails an “information vertical effect”: the partial misalignment of pro.t objectives within a partially integrated manufacturer-retailer hierarchy involves costs from asymmetric information that reduce the hierarchy’s profitability. This translates into an opposite “competition horizontal effect”: the partially integrated hierarchy commits to a higher retail price than under full integration, which strategically relaxes competition. The equilibrium degree of vertical integration trades o¤ the benefits of softer competition against the informational costs.

Keywords: asymmetric information, partial vertical integration, product differentiation, vertical mergers, vertical restraints.

JEL Classification: D82, L13, L42

Full text in pdf format:

455.pdf

Incomplete Contracting, Renegotiation, and Expectation-Based Loss Aversion

Abstract:

We consider a simple trading relationship between an expectation-based loss-averse buyer and profit-maximizing sellers. When writing a long-term contract the parties have to rely on renegotiations in order to ensure materially efficient trade ex post. The type of the concluded long-term contract affects the buyer’s expectations regarding the outcome of renegotiation. If the buyer expects renegotiation always to take place, the parties are always able to implement the materially efficient good ex post. It can be optimal for the buyer, however, to expect that renegotiation does not take place. In this case, a good of too high quality or too low quality is traded ex post. Based on the buyer’s expectation management, our theory provides a rationale for “employment contracts” in the absence of non-contractible investments. Moreover, in an extension with non-contractible investments, we show that loss aversion can reduce the hold-up problem.

JEL classification: C78; D03; D86

Keywords: Behavioral Contract Theory; Expectation-Based Loss Aversion; Incomplete Contracts; Renegotiation

Full text in pdf format:

454.pdf

Us and Them: Distributional Preferences in Small and Large Groups

Abstract:

We analyze distributional preferences in games in which a decider chooses the provision of a good that benefits a receiver and creates costs for a group of payers. The average decider takes into account the welfare of all parties and has concerns for efficiency. However, she attaches similar weights to small and large groups so that she neglects large provision costs that are dispersed among many payers. This holds regardless of whether the decider benefits from the provision or not. A CES utility function which rationalizes average behavior implies altruism in bilateral situations and welfare-damaging actions when costs are  dispersed.

Keywords: Social Preferences, Distribution Games, Concentrated Benefits and

Dispersed Costs

JEL Classification: C91, D63, H00

Full text in pdf format:

453.pdf

Overconfidence in the Markets for Lemons

Abstract:

We extend Akerlof (1970)’s “Market for Lemons” by assuming that some buyers are overconfident. Buyers in our model receive a noisy signal about the quality of the good that is on display for sale. Overconfident buyers do not update according to Bayes’ rule but take the noisy signal at face value. We show that the presence of overconfident buyers can stabilize the market outcome by preventing total adverse selection. This stabilization, however, comes at a cost: rational buyers are crowded out of the market.

JEL:  D82; L15

Keywords: Adverse Selection; Market for Lemons; Overconfidence

Full text in pdf format:

452.pdf

Hidden Benefits of Reward: A Field Experiment on Motivation and Monetary Incentives

Abstract:

We conducted a field experiment in a controlled work environment to investigate the effect of motivational talk and its interaction with monetary incentives. We find that motivational talk significantly improves performance only when accompanied by performance pay. Moreover, performance pay slightly reduces performance unless it is accompanied by motivational talk. These effects also carry over to the quality of work. Performance pay alone leads to more mistakes. Adding motivational talk makes the difference. In treatments with performance pay, motivational talk increases output by about 20 percent and reduces the ratio of mistakes by more than 40 percent.

JEL Classification: C93, M52, J33

Keywords: Verbal Motivation, Performance Pay, Field Experiment

Full text in pdf format:

451.pdf

Nominal or Real? The Impact of Regional Price Levels on Satisfaction with Life

Abstract:

According to economic theory, real income, i.e., nominal income adjusted for purchasing power, should be the relevant source of life satisfaction. Previous work, however, has only studied the impact of inflation adjusted nominal income and not taken into account regional differences in purchasing power. Therefore, we use a novel data set to study how regional price levels affect satisfaction with life. The data set comprises about 7 million data points that are used to construct a price level for each of the 428 administrative districts in Germany. We estimate pooled OLS and ordered probit models that include a comprehensive set of individual level, time-varying and time-invariant control variables as well as control variables that capture district heterogeneity other than the price level. Our results show that higher price levels significantly reduce life satisfaction. Furthermore, we find that a higher price level tends to induce a larger loss in life satisfaction than a corresponding decrease in nominal income. A formal test of neutrality of money, however, does not reject neutrality of money. Our results provide an argument in favor of regional indexation of government transfer payments such as social welfare benefits.

Keywords: Life satisfaction, price index, neutrality of money

JEL-Codes: D60, C23, D31

Full text in pdf format:

450.pdf

The Fragility of Short-Term Secured Funding Markets

Abstract:

This paper develops an infinite-horizon model of financial institutions that borrow short-term and invest in long-term assets that can be traded in frictionless markets. Because these financial intermediaries perform maturity transformation, they are subject to potential runs. We derive distinct liquidity, collateral, and asset liquidation constraints, which determine whether a run can occur as a result of changing market expectations. We show that the extent to which borrowers can ward off an individual run depends on whether it has sufficient liquidity, collateral, and asset liquidation capacity. These determinants depend on the borrower’s (endogenous) balance sheet and on (exogenous) fundamentals. Systemic runs are possible if shocks to the valuation of collateral held by outside investors are sufficiently strong and uniform, and if the system as a whole is exposed to high short-term funding risk. The theory has policy implications for prudential regulation and lender-of-last-resort interventions.

Keywords: Investment banking, securities dealers, repurchase agreements,

runs, financial fragility, collateral, systemic risk.

JEL classification: E44, E58, G24

Full text in pdf format:

449.pdf

Repo Runs

Abstract:

The recent financial crisis has shown that short-term collateralized borrowing may be a highly unstable source of funds in times of stress. The present paper develops a dynamic equilibrium model and analyzes under what conditions such instability can be a consequence of market-wide changes in expectations. We derive a liquidity constraint and a collateral constraint that determine whether such expectations-driven runs are possible and show that they depend crucially on the microstructure of particular funding markets that we examine in detail. In particular, our model provides insights into the differences between the tri-party repo market and the bilateral repo market, which were both at the heart of the recent financial crisis.

Keywords: Investment banking, repurchase agreements, tri-party repo, bilateral repo, money market mutual funds, asset-backed commercial paper, bank runs.

JEL classification: E44, E58, G24

Full text in pdf format:

448.pdf

Incentive Compatibility and Differentiability: New Results and Classic Applications

Abstract:

We provide several generalizations of Mailath's (1987) result that in games of asymmetric information with a continuum of types incentive compatibility plus separation implies differentiability of the informed agent's strategy. The new results extend the theory to classic models in finance such as Leland and Pyle (1977), Glosten (1989), and DeMarzo and Duffie (1999), that were not previously covered.

JEL Classification: C60, C73, D82, D83, G14

Keywords: Adverse selection, separation, differentiable strategies, incentive compatibility

Full text in pdf format:

447.pdf

Two-sided reputation in certification markets

Abstract:

We consider a market where privately informed sellers resort to certification to overcome adverse selection. There is uncertainty about the certifier's ability to generate accurate information. The profit of a monopolistic certifier is an inverted U-shaped function of his reputation for accuracy: being perceived as more precise allows to attract more good sellers but a high expected precision also deters bad sellers. Since the certifier tries to reach a balanced reputation to attract both types, reputation has a disciplining effect when the certifier is perceived as insufficiently accurate, but gives incentives to decrease precision when he is perceived as “too" accurate. The impact of competition depends on whether sellers “multihome" or “singlehome". Under singlehoming, certifiers compete to attract good sellers, which makes higher reputation more valuable. Multihoming makes higher reputations less desirable because the competitor exerts a negative externality by providing extra information. Therefore, singlehoming attenuates bad reputation effects, while multihoming exacerbates inefficiencies.

Full text in pdf format:

446.pdf

Verifiable and Nonverifiable Information in a Two-Period Agency Problem

Abstract:

I examine how a firm’s opportunity to verify information influences the joint use of verifiable and unverifiable information for incentive contracting. I employ a simple two-period agency model, in which contract frictions arise from limited liability and the potential unverifiability of the principal’s information about the agent’s action. With short-term contract, the principal benefits from both a more informative and a more conservative verification of his private information. With long-term contracts, he may prefer a less informative verification, but his preference for a conservative verification persists.

Full text in pdf format:

445.pdf

Good news and bad news in subjective performance evaluation

Abstract:

Earlier studies show that contracts under subjective performance evaluation are dichotomous and punish only worst performance. I show that with limited liability payments need not be binary. More importantly, if the agent earns a rent from limited liability, the optimal contract distinguishes only signals of good news and bad news of the agent’s action.

Keywords: bonus, monotone likelihood ratio, wage compression

JEL classification numbers: D82, M52, M54

Full text in pdf format:

444.pdf

Dynamic Bonus Pools

Abstract:

We analyze a two-period agency problem with limited liability and nonverifiable information. The principal commits to a dynamic bonus pool comprising a fixed total payment that may be distributed over time to the agent and a third party. We find that the optimal two-period contract features memory. If the agent succeeds in the first-period, second-period incentives are weakened whereas higher-powered incentives are provided if he fails. The two-period bonus pool offers a complementary reason for why third-party payments are not commonly observed in practice.

Full text in pdf format:

443.pdf

Signaling Competence in Elections

Abstract:

We analyze how political candidates can signal their competence and show that polarization might be a way of doing this. For this purpose, we study a unidimensional Hotelling-Downs model of electoral competition in which a fraction of candidates have the ability to correctly observe a policy-relevant state of the world. We show that candidates tend to polarize, even in the absence of policy bias. This is because proposing an extreme platform has a competence signaling effect and has a strictly higher probability of winning than proposing a median platform. The degree of polarization depends on how uncertain is the state of the world.

Full text in pdf format:

442.pdf

Procurement and Predation: Dynamic Sourcing from Financially Constrained Suppliers

Abstract:

This paper studies the interaction between financially constrained and financially strong firms on a procurement market. It characterizes and discusses a procurement agency’s optimal response when faced with financially asymmetric firms. By considering a dynamic setting, both present and future consequences and incentives are taken into account.

JEL Classification: D82, G30, H57.

Keywords: Asymmetric information, Dual sourcing, Favoritism, Financial

constraints, Procurement.

Full text in pdf format:

441.pdf

Anticompetitive Vertical Merger Waves

Abstract:

We develop a model of vertical merger waves leading to input foreclosure. When all upstream firms become vertically integrated, the input price can increase substantially above marginal cost despite Bertrand competition in the input market. Input foreclosure is easiest to sustain when upstream market shares are the most asymmetric (monopoly-like equilibria) or the most symmetric (collusive-like equilibria). In addition, these equilibria are more likely when (i) mergers generate strong synergies; (ii) price discrimination in the input market is not allowed; (iii) contracts are public; whereas (iv) the impact of upstream and downstream industry concentration is ambiguous.

Full text in pdf format:

440.pdf

Competition with Exclusive Contracts in Vertically Related Markets: An Equilibrium Non-Existence Result

Abstract:

I develop a model in the spirit of Ordover, Saloner, and Salop (1990), in which two upstream firms compete to supply a homogeneous input to two downstream firms, who compete in prices with differentiated products in a downstream market. Upstream firms are allowed to offer exclusive two-part tariff contracts to the downstream firms. I show that, under very general conditions, this game does not have a subgame-perfect equilibrium in pure strategies. The intuition is that variable parts in such an equilibrium would have to be pairwise-proof. But when variable parts are pairwise-proof, downstream competitive externalities are not internalized, and there exists a profitable deviation. I contrast this non-existence result with earlier papers that found equilibria in similar models.

Full text in pdf format:

439.pdf

Commitments, Intentions, Truth and Nash Equilibria

Abstract:

Games with multiple Nash equilibria are believed to be easier to play if players can communicate. We present a simple model of communication in games and investigate the importance of when communication takes place. Sending a message before play captures talk about intentions, after play captures talk about past commitments. We focus on equilibria where messages are believed whenever possible. Applying our results to Aumann’s Stag Hunt game we find that communication is useless if talk is about commitments, while the efficient outcome is selected if talk is about intentions. This confirms intuition and empirical findings in the literature.

We develop a theory of credible communication under complete information and connect it to the notion of credibility in standard senderreceiver games.

Keywords: Pre-play communication, cheap talk, credibility, coordination, sender-receiver games.

JEL Classification Numbers: C72, D83.

Full text in pdf format:

438.pdf

Mechanism Design by an Informed Principal: The Quasi- Linear Private-Values Case

Abstract:

We show that, in environments with independent private values and transferable utility, a privately informed principal can implement a contract that is ex-ante  optimal for her. As an application, we consider a bilateral exchange environment (Myerson and Satterthwaite, 1983) in which the principal is one of the traders. If the property rights over the good are dispersed among the traders, the principal will implement a contract in which she is almost surely better off than if there were no uncertainty about her information. The optimal contract is a combination of a participation fee, a buyout option for the principal, and a resale stage with posted prices and, hence, is a generalization of the posted price that would be optimal if the principal's valuation were commonly known. We also provide a condition under which the principal implements the same contract regardless of whether the agents know her information or not.

Full text in pdf format:

437.pdf

For-Profit Search Platforms

Abstract:

We consider optimal pricing by a profit-maximizing platform running a dynamic search and matching market. Buyers and sellers enter in cohorts over time, meet and bargain under private information. The optimal centralized mechanism, which involves posting a bid-ask spread, can be decentralized through participation fees charged by the intermediary to both sides. The sum of buyers’ and sellers’ fees equals the sum of inverse hazard rates of the marginal types and their ratio equals the ratio of buyers’ and sellers’ bargaining weights. We also show that a monopolistic intermediary in a search market  ay be welfare enhancing.

Keywords: Dynamic random matching, two-sided private information, intermediaries

JEL Codes: D82, D83

Full text in pdf format:

436.pdf

Assessing the Performance of Simple Contracts Empirically: The Case of Percentage Fees

Abstract:

This paper estimates the cost of using simple percentage fees rather than the broker optimal Bayesian mechanism, using data for real estate transactions in Boston in the mid-1990s. This counterfactual analysis shows that intermediaries using the best percentage fee mechanisms with fees ranging from 5.4% to 7.4% achieve 85% or more of the maximum profit. With the empirically observed 6% fees intermediaries achieve at least 83% of the maximum profit and with an optimally structured linear fee, they achieve 98% or more of the maximum profit.

Keywords: brokers, simple mechanisms, percentage fees, real estate brokerage.

JEL-Classification: C72, C78, L13

Full text in pdf format:

435.pdf

Fee-Setting Mechanisms: On Optimal Pricing by Intermediaries and Indirect Taxation

Abstract:

Mechanisms according to which private intermediaries or governments charge transaction fees or indirect taxes are prevalent in practice. We consider a setup with multiple buyers and sellers and two-sided independent private information about valuations. We show that any weighted average of revenue and social welfare can be maximized through appropriately chosen transaction fees and that in increasingly thin markets such optimal fees converge to linear fees. Moreover, fees decrease with competition (or the weight on welfare) and the elasticity of supply but decrease with the elasticity of demand. Our theoretical predictions fit empirical observations in several industries with intermediaries.

Keywords: brokers, applied mechanism design, linear commission fees, optimal indirect mechanisms, auction houses.

JEL-Classification: C72, C78, L13

Full text in pdf format:

434.pdf

Breaking Up a Research Consortium

Abstract:

Inter-firm R&D collaborations through contractual arrangements have become increasingly popular, but in many cases they are broken up without any joint discovery. We provide a rationale for the breakup date in R&D collaboration agreements. More specifically, we consider a research consortium initiated by a firm A with a firm B. B has private information about whether it is committed to the project or a free-rider. We show that under fairly general conditions, a breakup date in the contract is a (secondbest) optimal screening device for firm A to screen out free-riders. With the additional constraint of renegotiation proofness, A can only partially screen out free-riders: entry by some free-riders makes sure that A does not have an incentive to renegotiate the contract ex post. We also propose empirical strategies for identifying the three likely causes of a breakup date: adverse selection, moral hazard, and project non-viability.

Keywords: Optimal R&D contracts, adverse selection, breakup date, R&D collaboration

JEL-Classification: C72, D82, L20

Full text in pdf format:

433.pdf

A Semiparametric Test of Agent's Information Sets for Games of Incomplete Information

Abstract:

We propose semiparametric tests of misspecification of agent's information for games of incomplete information. The tests use the intuition that the opponent's choices should not predict a player's choice conditional on the proposed information available to the player. The tests are designed to check against some commonly used null hypotheses (Bajari et al. (2010), Aradillas-Lopez (2010)). We show that our tests have power to discriminate between common alternatives even in small samples. We apply our tests to data on entry in the US airline industry. Both the assumptions of independent and correlated private shocks are not supported by the data.

Full text in pdf format:

432.pdf

Why Do Shoppers Use Cash? Evidence from Shopping Diary Data

Abstract:

Recent studies find that cash remains a dominant payment choice for small-value transactions despite the prevalence of alternative methods of payment such as debit and credit cards. For policy makers an important question is whether consumers truly prefer using cash or merchants restrict card usage. Using unique shopping diary data, we estimate a payment choice model with individual unobserved heterogeneity (demandside factors) while controlling for merchants’ acceptance of cards (supply-side factors). Based on a policy simulation where we impose universal card acceptance among merchants, we find that overall cash usage would decrease by only 7.7 percentage points, implying that cash usage in small-value transactions is driven mainly by consumers’ preferences.

Keywords: Money demand, Payment methods, Consumer financial behavior

JEL Classification: G2, D1, C2

Full text in pdf format:

431.pdf

Objective versus Subjective Performance Evaluations

Abstract:

Why does incentive pay often depend on subjective rather than objective performance evaluations? After all, subjective evaluations entail a credibility issue. While the most plausible explanation for this practice is lack of adequate objective measures, I argue that subjective evaluations might sometimes also be used to withhold information from the worker. I furthermore argue that withholding information is particularly important under circumstances where the credibility issue is small. The statements are derived from a two-stage principal-agent model in which the stochastic relationship between effort and performance is unknown.

Keywords: Performance evaluation, principal-agent, moral hazard

JEL Codes: D83, D86, M12, M52

Full text in pdf format:

430.pdf

Precontractual Investigation and Sequential Screening

Abstract:

Should contract design induce an agent to conduct a precontractual investigation even though, in any case, the agent will become fully informed after the signing of the contract? This paper shows that imperfect investigations might be encouraged. The result stands in contrast to previous studies, which focus on perfect investigations. The contrast exists because if precontractual investigation is perfect, the benefits of sequential screening vanish.

Keywords: Principal agent, information acquisition, sequential screening

JEL Codes: D82, D83, D86

Full text in pdf format:

429.pdf

Acquisition and Disclosure of Information as a Hold-up Problem

Abstract:

The acquisition of information prior to sale gives rise to a hold-up situation quite naturally. Yet, while the bulk of the literature on the hold-up problem considers negotiations under symmetric information where cooperative short-cuts such as split the difference capture the outcome of bargaining, in the present setting, parties negotiate under asymmetric information where the outcome must be derived from a non-cooperative bargaining procedure. To avoid the difficult task of specifying and solving complicated games combining elements of signalling and screening, but to still compare incentives for acquiring information under voluntary versus mandatory disclosure, use of conditions such as incentive, disclosure and participation constraints only is made that are common to all non-cooperative bargaining outcomes.

JEL classification: K12, K13

Keywords: mistake, information acquisition, disclosing information

Full text in pdf format:

428.pdf

Optimal Sequential Delegation

Abstract:

The paper extends the optimal delegation framework pioneered by Holmström (1977, 1984) to a dynamic environment where, at the outset, the agent privately knows his ability to interpret decision relevant private information received later on. We show that any mechanism can be implemented by a sequential menu of delegation sets where the agent first picks a delegation set and then chooses an action within this set. For the uniform{quadratic case, we characterize when sequential delegation is strictly better than static delegation and derive the optimal delegation menu. We provide sufficient conditions so that our results extend beyond the uniform distribution.

Keywords: optimal delegation, sequential screening, dynamic mechanism design,

non-transferable utility.

JEL Codes: D02, D20, D82, D86.

Full text in pdf format:

427.pdf

Market Transparency, Adverse Selection, and Moral Hazard

Abstract:

We study the effects of improvements in market transparency on eBay on seller exit and continuing sellers’ behavior. An improvement in market transparency by reducing strategic bias in buyer ratings led to a significant increase in buyer valuation especially of sellers rated poorly prior to the change, but not to an increase in seller exit. When sellers had the choice between exiting—a reduction in adverse selection—and improved behavior—a reduction in moral hazard—, they preferred the latter because of lower cost. Increasing market transparency improves on market outcomes.

JEL classification: D47, D83, L15.

Keywords: Anonymous markets, adverse selection, moral hazard, reputation building mechanisms, market transparency, market design.

Full text in pdf format:

426.pdf

Relative Performance Pay in the Shadow of Crisis

Abstract:

We analyze whether incentives from relative performance pay are reduced or enhanced if a department is possibly terminated due to a crisis. Our benchmark model shows that incentives decrease in a severe crisis, but are boosted given a minor crisis since efforts are strategic complements in the former case but strategic substitutes in the latter one. We tested our predictions in a laboratory experiment. The results confirm the effort ranking but show that in a severe crisis individuals deviate from equilibrium significantly stronger than in other situations. This behavior contradicts the benchmark model and leads to a five times higher survival probability of the department. We develop a new theoretical approach that may explain players’ behavior.

Keywords: crisis; incentives; strategic complements; strategic substitutes; tournament

JEL Classification: C9; J3; J6; M5

Full text in pdf format:

425.pdf

Estimating a War of Attrition: The Case of the U.S. Movie Theater Industry

Abstract:

This paper provides a tractable empirical framework to analyze firm behavior in a dynamic oligopoly when demand is declining over time. I modify Fudenberg and Tirole (1986).s model of exit in a duopoly with incomplete information to a model that can be used in an oligopoly, and combine this with an auxiliary entry model to address the initial conditions problem. I estimate this model with panel data on the U.S. movie theater industry from 1949 to 1955, using variations in TV diffusion rates across households, market structure before the exit game starts, and other market characteristics to identify the parameters in the theater’s payoff function and the distribution of unobservable fixed costs. Using the estimated model, I measure strategic delays in the exit process due to oligopolistic competition and incomplete information. The delay in exit that arises from strategic interaction is 2.7 years on average. Out of these years, 3.7% of this delay is accounted for by incomplete information, while the remaining 96.3% is explained by oligopolistic competition.

Full text in pdf format:

424.pdf

Testing for Equilibrium Multiplicity in Dynamic Markov Games

Abstract:

This paper proposes several statistical tests for finite state Markov games to examine the null hypothesis that the data are generated from a single equilibrium. We formulate tests of (i) the conditional choice probabilities, (ii) the steady-state distribution of states and (iii) the conditional distribution of states conditional on an initial state. In a Monte Carlo study we find that the chi-squared test of the steady-state distribution performs well and has high power even with a small number of markets and time periods. We apply the chi-squared test to the empirical application of Ryan (2012) that analyzes dynamics of the U.S. Portland Cement industry and test if his assumption of single equilibrium is supported by the data.

Keywords: Dynamic Markov Game, Multiplicity of Equilibria, Testing.

Jel Classification: C12, C72, D44.

Full text in pdf format:

423.pdf

The Effect of Public Policies on Consumers' Preferences: Lessons from the French Automobile Market

Abstract:

In this paper, we investigate whether French consumers have modified their preferences towards environmentally-friendly vehicles between 2003 and 2008. We estimate a model of demand for automobiles incorporating both consumers' heterogeneity and CO2 emissions of the vehicles. Our results show that there has been a shift in preferences towards low-emitting cars, with an average increase of 367 euros of the willingness to pay for a reduction of 10 grams of carbon dioxide per kilometer. We also stress a large heterogeneity in the evolution of preferences between consumers. Rich and young people are more sensitive to environmental issues, and our results are in line with votes for the green party at the presidential elections. We relate these changes with two environmental policies that were introduced at these times, namely the obligation of indicating energy labels by the end of 2005 and a feebate based on CO2 emissions of new vehicles in 2008. Our results suggest that such policies have been efficient tools to shift consumers utility towards environmentally-friendly goods, the shift in preferences accounting for 20% of the overall decrease in average CO2 emissions of new cars on the period.

Keywords: environmental policy, consumers' preferences, CO2 emissions, automobiles.

JEL codes: D12, H23, L62, Q51.

Full text in pdf format:

422.pdf

Fight Alone or Together? The Need to Belong

Abstract:

Alliances often face both free-riding and hold-up problems, which under- mine the effectiveness of alliances in mobilizing joint fighting effort. Despite of these disadvantages, alliances are still ubiquitous in all types of contests. This paper asks if there are non-monetary incentives to form alliances, e.g., intimidating/discouraging the single player(s) who is/are left alone. For this purpose, I compare symmetric (2 vs. 2) and asymmetric (2 vs. 1) contests to their equivalent 4-player and 3-player individual contests, respectively. We find that alliance players in symmetric (2 vs. 2) contests behave the same as those in equivalent 4-player individual contests. However, in asymmetric (2 vs. 1) contests, stand-alone players were strongly discouraged to exert effort (especially the females), compared to the 3-player individual contests. Alliance players may have anticipated this effect and also reduced their effort, if alliances share the prize according to the merit rule. Behavioural factors such as the need to belong can help reconcile the "paradox of alliance formation".

Keywords: Alliance Formation, Contest and Conflict, Experiment.

JEL Codes: D72; D74; C91

Full text in pdf format:

421.pdf

Alliances in the Shadow of Con‡flict

Abstract:

Victorious alliances often fight about the spoils of war. This paper presents an experiment on the determinants of whether alliances break up and fight internally after having defeated a joint enemy. First, if peaceful sharing yields an asymmetric rent distribution, this increases the likelihood of fighting. In turn, anticipation of the higher likelihood of internal fight reduces the alliance’s ability to succeed against the outside enemy. Second, the option to make non-binding declarations on non-aggression in the relationship between alliance members does not make peaceful settlement within the alliance more likely. Third, higher differences in the alliance players’ contributions to alliance effort lead to more internal conflict and more intense fighting.

Keywords: Conflict; Contest; Alliance; Endogenous internal conflict; Hold-up problem; Non-aggression pact; Experiment

JEL Codes: D72; D74

Full text in pdf format:

420.pdf

Endogenous group formation in experimental contests

Abstract:

We study endogenous group formation in tournaments employing experimental three-player contests. We find that players in endogenously formed alliances cope better with the moral hazard problem in groups than players who are forced into an alliance. Also, players who are committed to expending effort above average choose to stand alone. If these players are forced to play in an alliance, they invest even more, whereas their co-players choose lower effort. Anticipation of this exploitation may explain their preference to stand alone.

Keywords: Endogenous group formation, contest, conflict, alliance, experiment, moral hazard problem, free-riding, in-group favoritism

JEL codes: D72, D74

Full text in pdf format:

419.pdf

Evolutionary determinants of war

Abstract:

This paper considers evolutionarily stable decisions about whether to initiate violent conflict rather than accepting a peaceful sharing outcome. Focusing on small sets of players such as countries in a geographically confined area, we use Schaffer’s (1988) concept of evolutionary stability. We find that players ‘evolutionarily stable preferences widen the range of peaceful resource allocations that are rejected in favor of violent conflict, compared to the Nash equilibrium outcomes. Relative advantages in fighting strength are reflected in the equilibrium set of peaceful resource allocations.

Keywords: Conflict; Contest; Endogenous fighting; Balance of power; Evolutionary stability

JEL Codes: D72; D74

Full text in pdf format:

418.pdf

Optimal Voting Rules

Abstract:

We study dominant strategy incentive compatible (DIC) and deterministic mechanisms in a social choice setting with several alternatives. The agents are privately informed about their preferences, and have single-crossing utility functions. Monetary transfers are not feasible. We use an equivalence between deterministic, DIC mechanisms and generalized median voter schemes to construct the constrained-efficient, optimal mechanism for an utilitarian planner. Optimal schemes for other welfare criteria such as, say, a Rawlsian maximin can be analogously obtained.

Full text in pdf format:

417.pdf

Deferred Patent Examination

Abstract:

Most patent systems allow applicants to defer patent examination by some time. Deferred examination was introduced in the 1960s, first at the Dutch patent office and subsequently in many other countries, as a response to mounting backlogs of unexamined patent applications. Some applicants allow the examination option to lapse and never request examination once they learn about the value of their invention. Examination loads are reduced substantially in these systems, albeit at the cost of having a large number of pending patent applications. Economic models of patent examination and renewal have largely ignored this important feature to date. We construct a model of patent application, examination and renewal in which applicants have control over the timing of examination and study the tradeoffs that applicants face. Using data from the Canadian patent office and a simulated GMM estimator, we obtain estimates for parameter values of the value distributions and of the learning process. We use our estimates to assess the value of Canadian patents as well as applications. We find that a considerable part of the value is realized before a patent is even granted. In addition, we simulate the counterfactual impact of changes in the deferment period. The estimates we obtain for the value of one additional year of deferment are relatively high and may explain why some applicants embark on delay tactics (such as continuations or divisionals) in patent systems without a statutory deferment option.

Keywords: patent, patent value, value of patent applications, patent examination, deferred patent examination

Full text in pdf format:

416.pdf

The License of Right, Compulsory Licensing and the Value of Exclusivity

Abstract:

This paper uses the License of Right (LOR) provision implemented in Section 23 of the German Patent Act to answer the following questions: What is the distribution of the private value of the right to exclude others provided by a patent? What are the welfare implications of having a License of Right system? Section 23 of the German Patent Act grants a patentee a 50% reduction on the annual renewal fees if he voluntarily allows anyone to use the invention only in return for reasonable compensation. We build a parametric discrete choice model of patent renewal and LOR declaration to exploit data on granted German patent applications from 1983-1988. Our estimates show that the distribution of the value of the right to exclude others is very skewed and its relative importance rises with patent age. For most patent owners the exclusion right is very valuable. Nevertheless, for a small fraction of patents a commitment to license non-exclusively may even increase the returns from patent protection. The welfare implications of the License of Right system in Germany are twofold. It increases the private value of patent rights but lowers the patent office's revenues. Furthermore, we are able to distinguish between two motives for declaring LOR, the cost-saving and the commitment motive. The fraction of declarations made out of the cost-saving motive is relatively low for young patents but increasing with patent age. In a counterfactual experiment we simulate the impact of making LOR declarations compulsory. We show that a compulsory licensing system could deprive the

patent owners of a very substantial part of the incentives currently provided by the patent system.

Keywords: value of exclusivity, patent valuation, license of right, compulsory licensing, patent

renewal model

Full text in pdf format:

415.pdf

Externalities in Recruiting

Abstract:

External recruiting at least weakly improves the quality of the pool of applicants, but the incentive implications are less clear. Using a contest model, this paper investigates the pure incentive effects of external recruiting. Our results show that if workers are heterogeneous, the opening of a firm’s career system may lead to a homogenization of the pool of contestants and, thus, encourage the firm’s high ability workers to exert more effort. If this positive effect outweighs the discouragement of low ability workers, the firm will benefit from external recruiting. If, however, the discouragement effect dominates the homogenization effect, the firm should disregard external recruiting. In addition, product market competition makes opening of the career system less attractive for a firm since it increases the incentives of its competitors’ workers and hence strengthens the competitors.

Keywords: contest; externalities; recruiting; wage policy.

JEL Classification: C72; J2; J3.

Full text in pdf format:

414.pdf

Bonus Pools and the Informativeness Principle

Abstract:

Previous work on moral-hazard problems has shown that, under certain conditions, bonus contracts create optimal individual incentives for risk-neutral workers. In our paper we demonstrate that, if a firm employs at least two workers, it may further bene.t from combining worker compensation via a bonus-pool contract and relative performance evaluation. Such combination leads to saved rents under a wide class of luck distributions. In addition, if the employer is wealth-constrained, complementing individual bonus contracts by the possibility of pooling bonuses can increase the set of implementable effort levels. All our results hold even though workers’ outputs are technically and stochastically independent so that, in view of Holmstrom’s informativeness principle, individual bonus contracts would be expected to dominate bonus-pool contracts.

Keywords: contract; hazard rate; informativeness principle; limited liability; relative

performance.

JEL classification: C72; D86.

Full text in pdf format:

413.pdf

Authority and Incentives in Organizations

Abstract:

The paper analyzes the choice of organizational structure as solution to the trade-off between controlling behavior based on authority rights and minimizing costs for implementing high efforts. The analysis includes the owner of a firm, a top manager and two division heads. If it is more expensive to incentivize the division heads, the owner will prefer full delegation of authority to them to replace their high incentive pay by incentives based on private benefits of control. In that situation, decentralization is optimal given that selfish behavior is more important than cooperation for maximizing returns, but concentrated delegation of full authority to a single division head is optimal for cooperation being crucial. If, however, incentivizing the division heads is clearly less expensive than creating incentives for the top manager, the owner will choose centralization given that cooperation is the dominating issue, but partial delegation if selfish behavior is crucial.

Keywords: authority, centralization, contracts, decentralization, moral hazard.

JEL classification: D21, D23, D86, L22.

Full text in pdf format:

412.pdf

Tournaments with Gaps

Abstract:

A standard tournament contract specifies only tournament prizes. If agents’ performance is measured on a cardinal scale, the principal can complement the tournament contract by a gap which defines the minimum distance by which the best performing agent must beat the second best to receive the winner prize. We analyze a tournament with two risk averse agents. Under unlimited liability, the principal strictly benefits from a gap by partially insuring the agents and thereby reducing labor costs. If the agents are protected by limited liability, the principal sticks to the standard tournament.

Keywords: limited liability; moral hazard; risk aversion; tournament; unlimited liability.

JEL classification: C72; D86.

Full text in pdf format:

411.pdf

Merger Efficiency and Managerial Incentives

Abstract:

We consider a two-stage principal-agent model with limited liability in which a CEO is employed as agent to gather information about suitable merger targets and to manage the merged corporation in case of an acquisition. Our results show that the CEO systematically recommends targets with low synergies—even when targets with high synergies are available—to obtain high-powered incentives and, hence, a high personal income at the merger-management stage. We derive conditions under which shareholders prefer a self-commitment policy or a rent-reduction policy to deter the CEO from opportunistic recommendations.

JEL classification: D82; D86; G34

Keywords: acquisition; merger; moral hazard

Full text in pdf format:

410.pdf

Identification and Estimation of Intra-Firm and Industry Competition via Ownership Change

Abstract:

This paper proposes and empirically implements a framework for analyzing industry competition and the degree of joint profit maximization of merging firms in differentiated product industries. Using pre- and post-merger industry data, I am able to separate merging firms' intra-organizational pricing considerations from industry pricing considerations. The insights of the paper shed light on a long-standing debate in the theoretical literature about the consequences of organizational integration. Moreover, I propose a novel approach to directly estimate industry conduct that relies on ownership changes and input price variation. I apply my framework using data from the ready-to-eat cereal industry, covering the 1993 Post-Nabisco merger. My results show an increasing degree of joint profit maximization of the merged entities over the first two years after the merger, eventually leading to almost full maximization of joint profits. I find that between 14.3 and 25.6 percent of industry markups can be attributed to cooperative industry behavior, while the remaining markup is due to product differentiation of multi-product firms.

Keywords: Identification of Market Structure, Post-merger Internalization of Profits,

Conduct Estimation, Ex-post Merger Evaluation, Estimation of Synergies

Full text in pdf format:

409.pdf

Globalization and Multiproduct Firms

Abstract:

We present an international trade model with multiproduct firms. Firms are heterogeneously endowed with two types of capabilities that jointly determine the trade-off within firms between managing a large portfolio of products and producing at low marginal cost. The model can explain many of the documented cross-sectional correlations in firm performance measures, including why larger firms are more productive and more diversified, and yet more diversified firms trade at a discount. Globalization is shown to induce heterogeneous responses across firms in terms of scope and productivity, some of which are consistent with existing empirical work, while others are potentially testable.

Keywords: multiproduct firms, trade liberalization, diversification discount, firm heterogeneity, productivity

JEL Classification: F12, F15

Full text in pdf format:

408.pdf

Affirmative Action: One Size Does Not Fit All

Abstract:

This paper identifies a new reason for giving preferences to the disadvantaged using a model of contests. There are two forces at work: the effort effect working against giving preferences and the selection effect working for them. When education is costly and easy to obtain (as in the U.S.), the selection effect dominates. When education is heavily subsidized and limited in supply (as in India), preferences are welfare reducing. The model also shows that unequal treatment of identical agents can be welfare improving, providing insights into when the counterintuitive policy of rationing educational access to some subgroups is welfare improving.

Keywords: contests; educational quotas; private benefits; social welfare.

JEL classification: D61, I23

Full text in pdf format:

407.pdf

Ex post information rents and disclosure in sequential screening

Abstract:

We study ex post information rents in sequential screening models where the agent receives private ex ante and ex post information. The principal has to pay ex post information rents for preventing the agent to coordinate lies about his ex ante and ex post information. When the agent’s ex ante information is discrete, these rents are positive, whereas they are zero in continuous models. Consequently, full disclosure of ex post information is generally suboptimal. Optimal disclosure rules trade off the benefits from adapting the allocation to better information against the effect that more information aggravates truth-telling.

Keywords: information rents, sequential screening, information disclosure

JEL codes: D82, H57

Full text in pdf format:

406.pdf

Work Norms, Social Insurance and the Allocation of Talent

Abstract:

This paper challanges the view that weak work norms in generous welfare states makes them economically unsustainable. I develop a dynamic model of family-transmitted values that has a laissez-faire equilibrium with strong work norms coexisting with a social-insurance equilibrium with weak work norms. While the former has better incentives, the latter induces more intergenerational occupational mobility which improves the allocation of talent and fuels growth. Strong work norms arise as a defensive strategy of parents that aims at perpetuating their occupation along family lines. I present evidence from microdata showing that generous social insurance correlates with high intergenerational occupational mobility and that more mobile individuals endorse weaker work norms.

Keywords: work norms, unemployment insurance, occupational mobility, economic growth.

JEL-Classification: H2, O0, Z1.

Full text in pdf format:

405_01.pdf

Trade Costs, Conflicts, and Defense Spending

Abstract:

This paper develops a quantitative model of trade, military conflicts, and defense spending. Trade liberalization between two countries reduces probability of an armed conflict between them, causing both to cut defense spending. This in turn causes a domino effect on defense spending by other countries. As a result, both countries and the rest of the world are better off. We estimate the model using data on trade, conflicts, and military spending. We find that, after reduction of costs of trade between a pair of hostile countries, the welfare effect of worldwide defense spending cuts is comparable in magnitude to the direct welfare gains from trade.

Keywords: general equilibrium, gains from trade, defense spending

JEL Codes: C5, C6, F13, F51, H56

Full text in pdf format:

404.pdf

Auctions with imperfect commitment when the reserve may serve as a signal

Abstract:

If bidders are uncertain whether the auctioneer sticks to the announced reserve, some bidders respond by not bidding, speculating that the auctioneer may revoke the reserve. However, the reserve inadvertently signals the auctioneer's type, which drives a unique separating and a multitude of pooling equilibria. If one eliminates belief systems that violate the "intuitive criterion'', one obtains a unique equilibrium reserve price equal to the seller's own valuation. Paradoxically, even if bidders initially believe that the auctioneer is bound by his reserve almost with certainty, commitment has no value.

Keywords: Auctions, signalling, mechanism design.

JEL Classifications: D21, D43, D44, D45.

Full text in pdf format:

403_01.pdf

Trade Openness and Cross-country Income Differences

Abstract:

Development accounting literature usually attributes the observed cross-country variation in per capita income to differences in countries' factor endowments and total factor productivity (the Solow residual). While the former can be relatively straightforward interpreted and measured, the latter remains at least partly a black box. In this paper, we provide a structural interpretation for differences in total factor productivity across countries and quantitatively explore the role of trade barriers in explaining cross-country income differences. In particular, we find that giving all countries the same market entry costs or giving all country-pairs the same variable trade costs reduces inequality by around 13%.

Keywords: General equilibrium, market access costs, development accounting, experiments

JEL Classification: F11, F12, O10, O40

Full text in pdf format:

402.pdf

Exit Options and the Allocation of Authority

Abstract:

We analyze the optimal allocation of authority in an organization whose members have conflicting preferences. One party has decision-relevant private information, and the party who obtains authority decides in a self-interested way. As a novel element in the literature on decision rights, we consider exit option contracts: the party without decision rights is entitled to prematurely terminate the relation after the other party's choice. We show that under such a contract it is always optimal to assign authority to the informed and not to the uninformed party, irrespective of the parties' conflict of interest. Indeed, the first-best efficient solution can be obtained by such a contract.

Keywords: Authority, decision rights, exit options, incomplete contracts, asymmetric information.

JEL Classification No.: D23, D82, D86.

Full text in pdf format:

401.pdf

Signalling Rivalry and Quality Uncertainty in a Duopoly

Abstract:

This paper considers price competition in a duopoly with quality uncertainty. The established firm (the `incumbent') offers a quality that is publicly known; the other firm (the `entrant') offers a new good whose quality is not known by some consumers. The incumbent is fully informed about the entrant's quality. This leads to price signalling rivalry because the incumbent gains and the entrant loses if observed prices make the uninformed consumers more pessimistic about the entrant's quality. When the uninformed consumers' beliefs satisfy the `intuitive criterion' and the `unprejudiced belief refinement', prices signal the entrant's quality only in a two-sided separating equilibrium and are identical to the full information outcome.

Keywords: Quality uncertainty, Signalling, Oligopoly, Price competition

JEL Classification No.: D43, D82, L15

Full text in pdf format:

400_01.pdf

Subjective Evaluation versus Public Information

Abstract:

This paper studies a principal-agent relation in which the principal's private information about the agent's effort choice is more accurate than a noisy public performance measure. For some contingencies the optimal contract has to specify ex post inefficiencies in the form of inefficient termination (firing the agent) or third-party payments (money burning). We show that money burning is the less efficient incentive device: it is used at most in addition to firing and only if the loss from termination is small. Under an optimal contract the agent's wage may depend only on the principal's report and not on the public signal. Nonetheless, public information is valuable as it facilitates truthful subjective evaluation by the principal.

Keywords: Subjective evaluation, moral hazard, termination clauses, third-party payments

JEL Classification No.: D23, D82, D86, J41, M12

Full text in pdf format:

399.pdf

Do Multinationals Transplant their Business Model?

Abstract:

What determines whether or not multinational firms transplant their mode of organisation to other countries? We embed the theory of knowledge hierarchies in an industry equilibrium model of monopolistic competition to examine how the economic environment may affect the decision of a multinational firm about transplanting its business organisation to other countries. We test the theory with original and matched parent and affiliate data on the internal organisation of 660 Austrian and German multinational firms and 2200 of their affiliate firms in Eastern Europe. We find that three factors stand out in promoting the multinational firm’s decision to transplant the business model to the affiliate firm in the host country: a competitive host market, the corporate culture of the multinational firm, and when an innovative technology is transferred to the host country. These factors increase the respective probabilities of organisational transfer by 18.5 percentage points, 37, and 31 percentage points.

JEL Codes: D23 F12 F23 F61

Keywords: organisational economics of multinational firms, trade and organisations, the theory of the firm, organisational transfer between countries

Full text in pdf format:

398.pdf

Regulating a multiproduct and multitype monopolist

Abstract:

I study the optimal regulation of a firm producing two goods. The firm has private information about its cost of producing either of the goods. I explore the ways in which the optimal allocation differs from its one dimensional counterpart. With binding constraints in both dimensions, the allocation involves distortions for the most efficient producers and features overproduction for some less efficient types.

JEL classification: D82, L21, Asymmetric Information, Multi-dimensional Screening, Regulation.

Full text in pdf format:

397.pdf

Breakdowns

Abstract:

We study a continuous-time game of strategic experimentation in which the players try to assess the failure rate of some new equipment or technology. Breakdowns occur at the jump times of a Poisson process whose unknown intensity is either high or low. In marked contrast to existing models, we find that the cooperative value function does not exhibit smooth pasting at the efficient cut-off belief. This finding extends to the boundaries between continuation and stopping regions in Markov perfect equilibria. We characterize the unique symmetric equilibrium, construct a class of asymmetric equilibria, and elucidate the impact of bad versus good Poisson news on equilibrium outcomes.

Keywords: Strategic Experimentation, Two-Armed Bandit, Bayesian Learning,
Poisson Process, Piecewise Deterministic Process, Markov Perfect Equilibrium,
Differential-Difference Equation, Smooth Pasting, Continuous Pasting.
JEL Classification Numbers: C73, D83, O32

Full text in pdf format:

396.pdf

Delays in Leniency Application: Is There Really a Race to the Enforcer’s Door?

Abstract:

This paper studies cartels’ strategic behavior in delaying leniency applications, a take-up decision that has been ignored in the previous literature. Using European Commission decisions issued over a 16-year span, we show, contrary to common beliefs and the existing literature, that conspirators often apply for leniency long after a cartel collapses. We estimate hazard and probit models to study the determinants of leniency-application delays. Statistical tests find that delays are symmetrically affected by antitrust policies and macroeconomic fluctuations. Our results shed light on the design of enforcement programs against cartels and other forms of conspiracy. Journal of Economic Literature

Classification Numbers: D43, K21, K42, L13.
Keywords: corporate leniency program, cartel, leniency application delays

Full text in pdf format:

395.pdf

License auctions with exit (and entry) options: Alternative remedies for the exposure problem

Abstract:

Inspired by some spectrum auctions, we consider a stylized license auction with incumbents and one entrant. Whereas the entrant values only the bundle of several units (synergy), incumbents are subject to non-increasing demand. The seller proactively encourages entry and restricts incumbent bidders. In this framework, an English clock auction gives rise to an exposure problem that distorts eciency and impairs revenue. We consider three remedies: a (constrained) Vickrey package auction, an English clock auction with exit option that allows the entrant to annul his bid, and an English clock auction with exit and entry option that lifts the bidding restriction if entry failed.

Keywords: Auctions, package auctions, combinatorial clock auctions,
spectrum auction, bundling, synergies.
2000 MSC: D21, D43, D44, D45G34.

Full text in pdf format:

394.pdf

Pay What You Want as a Marketing Strategy in Monopolistic and Competitive Markets

Abstract:

Pay What You Want (PWYW) can be an attractive marketing strategy to price discriminate between fair-minded and selfish customers, to fully penetrate a market without giving away the product for free, and to undercut competitors that use posted prices. We report on laboratory experiments that identify causal factors determining the willingness of buyers to pay voluntarily under PWYW. Furthermore, to see how competition affects the viability of PWYW, we implement markets in which a PWYW seller competes with a traditional seller. Finally, we endogenize the market structure and let sellers choose their pricing strategy. The experimental results show that outcome-based social preferences and strategic considerations to keep the seller in the market can explain why and how much buyers pay voluntarily to a PWYW seller. We find that PWYW can be viable in isolation, but it is less successful as a competitive strategy because it does not drive traditional posted-price sellers out of the market. Instead, the existence of a posted-price competitor reduces buyers’ payments and prevents the PWYW seller from fully penetrating the market. If given the choice, the majority of sellers opt for setting a posted price rather than a PWYW pricing. We discuss the implications of these results for the use of PWYW as a marketing strategy.
Keywords: customer-driven pricing mechanisms; pay what you want; revenue management; price discrimination; social preferences.

Full text in pdf format:

393.pdf

You Owe Me

Abstract:

In many cultures and industries gifts are given in order to influence the recipient, often at the expense of a third party. Examples include business gifts of firms and lobbyists. In a series of experiments, we show that, even without incentive or in-formational effects, small gifts strongly influence the recipient’s behavior in favor of the gift giver, in particular when a third party bears the cost. Subjects are well aware that the gift is given to influence their behavior but reciprocate nevertheless. Withholding the gift triggers a strong negative response. These findings are incon-sistent with the most prominent models of social preferences. We propose an ex-tension of existing theories to capture the observed behavior by endogenizing the “reference group” to whom social preferences are applied. We also show that dis-closure and size limits are not effective in reducing the effect of gifts, consistent with our model. Financial incentives ameliorate the effect of the gift but backfire when available but not provided.
Keywords: Gift exchange; externalities; lobbyism; corruption; reciprocity; social preferences.
JEL: C91, D73, I11.

Full text in pdf format:

392.pdf

Use and Abuse of Authority A Behavioral Foundation of the Employment Relation

Abstract:

Abstract: Employment contracts give a principal the authority to decide flexibly which task his agent should execute. However, there is a tradeoff, first pointed out by Simon (1951), between flexibility and employer moral hazard. An employment contract allows the principal to adjust the task quickly to the realization of the state of the world, but he may also abuse this flexibility to exploit the agent. We capture this tradeoff in an experimental design and show that principals exhibit a strong preference for the employment contract. However, selfish principals exploit agents in one-shot interactions, inducing them to resist entering into employment contracts. This resistance to employment contracts vanishes if fairness preferences in combination with reputation opportunities keep principals from abusing their power, leading to the widespread, endogenous formation of efficient long-run employment relations. Our results inform the theory of the firm by showing how behavioral forces shape an important transaction cost of integration – the abuse of authority – and by providing an empirical basis for assessing differences between the Marxian and the Coasian view of the firm, as well as Alchian and Demsetz’s (1972) critique of the Coasian approach.
Keywords: theory of the firm, transaction cost economics, authority, power abuse, employment relation, fairness, reputation
JEL: C91, D23, D86, M5

Full text in pdf format:

391.pdf

A Theory of Ex Post Inefficient Renegotiation

Abstract:

We propose a theory of ex post inefficient renegotiation that is based on loss aversion. When two parties write a long-term contract that has to be renegotiated after the realization of the state of the world, they take the initial contract as a reference point to which they compare gains and losses of the renegotiated transaction. We show that loss aversion makes the renegotiated outcome sticky and materially inefficient. The theory has important implications for the optimal design of long-term contracts. First, it explains why parties often abstain from writing a beneficial long-term contract or why some contracts specify transactions that are never ex post efficient. Second, it shows under what conditions parties should rely on the allocation of ownership rights to protect relationship-specific investments rather than writing a specific performance contract. Third, it shows that employment contracts can be strictly optimal even if parties are free to renegotiate.

JEL classification: C78; D03; D86.

Keywords: Renegotiation; Incomplete Contracts; Reference Points; Employment Contracts; Behavioral Contract Theory.

Full text in pdf format:

390.pdf

The Expectation-Based Loss-Averse Newsvendor

Abstract:

We modify the classic single-period inventory management problem by assuming that the newsvendor is expectation-based loss averse according to Köszegi and Rabin (2006, 2007). Expectation-based loss aversion leads to an endogenous psychological cost of leftovers as well as stockouts. If there are no monetary stockout costs, then the loss-averse newsvendor orders a quantity lower than the quantity ordered by a profit-maximizing newsvendor. If there are positive monetary costs associated with stockouts, then the loss-averse newsvendor places suboptimal orders, which can be either too high or too low.

Keywords: behavioral operations management; inventory decision; loss aversion; newsvendor

Full text in pdf format:

389.pdf

Path-Dependent Behavior with Asymmetric Information about Traders' Types

Abstract:

We define path-dependency as the generic phenomenon according to which agents take an action regardless of their private information. Path-dependency can be of two types contingent on whether agents act with the crowd (herding) or against the crowd (contrarianism). We consider a quote-driven market where traders can in some cases observe whether their predecessors were informed, although they cannot  observe their private information, while in other cases they are left with the uncertainty that their predecessors acted purely for liquidity motives. In this setting we recover herding and contrarianism and we find that better-informed markets (i.e. where informed traders receive high precision signals) can generate path-dependent behavior more easily than poorly informed ones. Moreover, we illustrate how a market dominated by herding features a price that is more informative of the asset value than the price of a market where traders always follow their signal. We also discuss how contrarianism has the exact opposite effect by decreasing price informativeness.

JEL: D82, D83, G14

Keywords: Herding, Contrarianism, Financial Markets

Full text in pdf format:

388.pdf

Strategic Experimentation with Private Payoffs

Abstract:

We consider two players facing identical discrete-time bandit problems with a safe and a risky arm. In any period, the risky arm yields either a success or a failure, and the first success reveals the risky arm to dominate the safe one. When payoffs are public information, the ensuing free-rider problem is so severe that the equilibrium number of experiments is at most one plus the number of experiments that a single agent would perform. When payoffs are private information and players can communicate via cheap talk, the socially optimal symmetric experimentation profile can be supported as a perfect Bayesian equilibrium for sufficiently optimistic prior beliefs. These results generalize to more than two players whenever the success probability per period is not too high. In particular, this is the case when successes occur at the jump times of a Poisson process and the period length is sufficiently small.

JEL classification: C73, D83.

Keywords: Strategic Experimentation, Bayesian Learning, Cheap Talk, Two-Armed Bandit, Information Externality.

Full text in pdf format:

387.pdf

Strategic information transmission and stochastic orders

Abstract:

I develop new results on uniqueness and comparative statics of equilibria in the Crawford and Sobel (1982) strategic information transmission game. For a class of utility functions, I demonstrate that logconcavity of the density implies uniqueness of equilibria inducing a given number of Receiver actions. I provide comparative statics results with respect to the distribution of types for distributions that are comparable in the likelihood ratio order, implying, e.g., that advice from a better informed Sender induces the Receiver to choose actions that are more spread out.

Keywords: strategic information transmission, cheap talk, uniqueness, comparative statics, logconcavity, likelihood ratio order

JEL classification: D82

Full text in pdf format:

386.pdf

Reference Points in Renegotiations: The Role of Contracts and Competition

Abstract:

Several recent papers argue that contracts provide reference points that affect ex post behavior. We test this hypothesis in a canonical buyer-seller relationship with renegotiation. Our paper provides causal experimental evidence that an initial contract has a highly significant and economically important impact on renegotiation behavior that goes beyond the effect of contracts on bargaining threatpoints. We compare situations in which an initial contract is renegotiated to strategically equivalent bargaining situations in which no ex ante contract was written. The ex ante contract causes sellers to ask for markups that are 45 percent lower than in strategically equivalent bargaining situations without an initial contract. Moreover, buyers are more likely to reject given markups in renegotiations than in negotiations. We do not find that these effects are stronger when the initial contract is concluded under competitive rather than monopolistic conditions.

Keywords: renegotiation, bargaining, reference points, contracts, competition

JEL: C78, C91, D03, D86

Full text in pdf format:

385.pdf

Plan Selection in Medicare Part D: Evidence from administrative Data

Abstract:

We study the Medicare Part D prescription drug insurance program as a bellwether for designs of private, non-mandatory health insurance markets, focusing on the ability of consumers to evaluate and optimize their choices of plans. Our analysis of administrative data on medical claims in Medicare Part D suggests that less than 10 percent of individuals enroll in plans that are ex post optimal with respect to total cost (premiums and co-payments). Relative to the benchmark of a static decision rule, similar to the Plan Finder provided by the Medicare administration, that conditions next year’s plan choice only on the drugs consumed in the current year, enrollees lost on average about $300 per year. These numbers are hard to reconcile with decision costs alone; it appears that unless a sizeable fraction of consumers value plan features other than cost, they are not optimizing effectively.

Full text in pdf format:

384_01.pdf

Discretion, Productivity and Work Satisfaction

Abstract:

In Bartling, Fehr and Schmidt (2012) we show theoretically and experimentally that it is optimal to grant discretion to workers if (i) discretion increases productivity, (ii) workers can be screened by past performance, (iii) some workers reciprocate high wages with high effort and (iv) employers pay high wages leaving rents to their workers. In this paper we show experimentally that the productivity increase due to discretion is not only sufficient but also necessary for the optimality of granting discretion to workers. Furthermore, we report representative survey evidence on the impact of discretion on workers’ welfare, confirming that workers earn rents.

Keywords: high-performance work systems, wages, discretion, gift exchange, job satisfaction.

JEL: M5, J3

Full text in pdf format:

383.pdf

Income Inequality and Self-Reported Values

Abstract:

This paper offers a comprehensive econometric investigation of the impact of income inequality on the values endorsed by people. Using survey data from all thirty-four OECD countries over a period of almost thirty years, the following dimensions of value systems are investigated: work ethic, civism, obedience, honesty, altruism, and tolerance. In most cases, no robust effects from inequality on values are detected. However, there is evidence that a more unequal income distribution strengthens the work ethic of the population. Thus, income inequality seems to generate work incentives not only via the pecuniary reward of work but also through the symbolic reward it receives.

Keywords: Income inequality, Value systems.

JEL-Classification: D63, O15, O57, Z1

Full text in pdf format:

382.pdf

The use of tax havens in exemption regimes

Abstract:

This paper analyzes the tax haven investment behavior of multinational firms from a country that exempts foreign income from taxation. High foreign tax rates generally encourage firms to invest in tax havens, though significant costs of reallocating taxable income dampen these incentives. The behavior of German manufacturing firms from 2002-2008 is consistent with this prediction: at the mean, one percentage point higher foreign tax rates are associated with three percentage point greater likelihoods of owning tax haven affiliates. This contrasts with earlier evidence for U.S. firms subject to home country taxation, which are more likely to invest in tax havens if they face lower foreign tax rates. Foreign tax rates appear to be unrelated to tax haven investments of German firms in service industries, possibly reflecting the difficulty they face in reallocating taxable income.
Keywords: Tax Havens, Multinational Firms, Tax Avoidance, Profit Shifting, Manufacturing FDI, Service FDI
JEL classification: H87, F23

Full text in pdf format:

381.pdf

Trade liberalization and credit constraints: Why opening up may fail to promote convergence

Abstract:

Recent evidence suggests that despite opening up a country for trade, the productivity gap between developed and emerging economies often does not close. This paper examines credit constraints as one channel held responsible for hampering convergence. Specifically, we extend a Melitz and Ottaviano (2008) type trade model with variable mark-ups to allow for endogenous technology adoption. We consider a framework with two countries that potentially differ with respect to credit market development. Firms have the option to adopt a more efficient technology by paying some fixed cost. A fraction of the fixed technology adoption cost has to be financed externally: in a less developed credit market, the costs of external finance and thus the total costs of technology adoption are higher. A reduction in trade costs raises demand abroad (pro technology-adoption effect) but reduces demand at home because of import competition (anti technology-adoption effect). We find that trade liberalization increases economic performance, that is average productivity and technology adoption, in both countries but that the productivity gap widens. Simulations show that the welfare gap widens too. Opening up without sufficient access to external funding thus fails to promote convergence.
Keywords: Trade liberalization, Technology adoption, Financial constraints, Convergence, Productivity gap.
JEL classification: F1, O33, O16

Full text in pdf format:

380.pdf

How Trade Credits Foster International Trade

Abstract:

Internationally active firms rely intensively on trade credits even though they are considered particularly expensive. This phenomenon has been little explored so far. Our theoretical analysis shows that trade credits can alleviate financial constraints arising from asymmetric information because they serve as a quality signal and reduce the uncertainty related to international transactions. We use unique survey data on German enterprises to test the effect of the use of trade credits on firms' exporting and importing behavior, both at the extensive and intensive margins. Our results support the assertion that trade credits have a positive impact on firms' exporting and importing activities.
Keywords: trade credits, international trade, financial constraints, export, import, BEEPS
JEL classification: F10, G30

Full text in pdf format:

379.pdf

Delegation and Rewards

Abstract:

We study experimentally whether anti-corruption policies with a focus on bribery might be insufficient to uncover more subtle ways of gaining an unfair advantage. In particular, we investigate whether an implicit agreement to exchange favors between a decision-maker and a lobbying party serves as a legal substitute for corruption. Due to the obvious lack of field data on these activities, the laboratory provides an excellent opportunity to study this question. We find that even the pure anticipation of future rewards from a lobbying party suffices to bias a decision-maker in favor of this party, even though it creates negative externalities to others. Although future rewards are not contractible, the benefitting party voluntarily compensates decision-makers for partisan choices. In this way, both receive higher payoffs, but aggregate welfare is lower than without a rewards channel. Thus, the outcome mirrors what might have been achieved via conventional bribing, while not being illegal.
Keywords: delegation, gift exchange, corruption, lobbying, negative externalities
JEL classification: C91, D62, D63, D73, K42

Full text in pdf format:

378.pdf

Optimal Use of Rewards as Commitment Device When Bidding is Costly

Abstract:

This paper considers procurement auctions with costly bidding when the  auctioneer is unable to commit himself to restrict the number of bidders. The auctioneer can, however, oer a nancial reward to be paid to every short-listed bidders as an indirect commitment device. Rewards for short-listed bidders are costly. Nevertheless, it is generally optimal for the procurer to credibly implement the same restriction of the number of bidders that is optimal under full commitment.
Keywords: Procurement, auctions, industrial organization, mechanism design.
JEL classification: D21, D43, D44, D45.

Full text in pdf format:

377.pdf

Continuous Time Contests

Abstract:

This paper introduces a contest model in which each player decides when to stop a privately observed Brownian motion with drift and incurs costs depending on his stopping time. The player who stops his process at the highest value wins a prize. Applications of the model include procurement contests and competitions for grants. We prove existence and uniqueness of the Nash equilibrium outcome, even if players have to choose bounded stopping times. We derive the equilibrium distribution in closed form. If the noise vanishes, the equilibrium outcome converges to - and thus selects - the symmetric equilibrium outcome of an all-pay auction. For two players and constant costs, each player’s profits increase if costs for both players increase, variance increases, or drift decreases. Intuitively, patience becomes a more important factor for contest success, which reduces informational rents.
Keywords: Contests, all-pay contests, silent timing games.

Full text in pdf format:

376.pdf

Gambling in Contests

Abstract:

This paper presents a strategic model of risk-taking behavior in contests. Formally, we analyze an n-player winner-take-all contest in which each player decides when to stop a privately observed Brownian Motion with drift. A player whose process reaches zero has to stop. The player with the highest stopping point wins. Contrary to the explicit cost for a higher stopping time in a war of attrition, here, higher stopping times are riskier, because players can go bankrupt. We derive a closed-form solution of the unique Nash equilibrium outcome of the game. In equilibrium, the trade-off between risk and reward causes a non-monotonicity: highest expected losses occur if the process decreases only slightly in expectation.
Keywords: Discontinuous games; Contests; Relative performance pay; Risktaking behavior
JEL classification: C72; C73; D81

Full text in pdf format:

375.pdf

What explains the rise in CEO pay in Germany? A Panel Data Analysis for 1977-2009

Abstract:

The compensation of executive board members in Germany has become a highly controversial topic since Vodafone's hostile takeover of Mannesmann in 2000 and it is again in the spotlight since the outbreak of the financial crisis of 2009. Based on unique panel data evidence of the 500 largest firms in Germany in the period 1977-2009 we test two prominent hypothesis in the literature on executive pay: the manager power hypothesis and the efficient pay hypothesis. We find support for the manager power hypothesis for Germany as executives tend to be rewarded when the sector is doing well rather than the firm they work for. We reject, however, the efficient pay hypothesis as CEO pay and the demand for managers increases in Germany in difficult times when the typical firm size shrinks. We find further that domestic and global competition for managers has contributed to the rise in executive pay in Germany. Lastly, we show that CEOs in the banking sector are provided with incentives for performance and that the great recession of 2009 acted as a disciplining devise on CEO pay in Germany.
JEL classification: F23, J3, M12, M52.

Full text in pdf format:

374.pdf

Risk attitudes and Medicare Part D enrollment decisions

Abstract:

The new Medicare Part D program provides prescription drug coverage for older Americans through highly subsidized and tightly regulated plans offered by private insurance firms. For most eligible individuals without coverage from other sources, obtaining Part D coverage would be rational, but it requires active enrollment and plan choice decisions. We investigate if non-enrollment in Medicare Part D can partly be explained by risk aversion. Data are taken from a national online survey conducted just after the introduction Part D. The survey included a context-free and a context-related hypothetical lottery to measure an individual’s attitude towards risk. Respondents who are risk tolerant according to these measures were significantly less likely to enroll in Part D. We also illustrate that hypothetical choice questions designed to elicit risk attitudes are subject to reference-point effects. Even minor differences in the priming of respondents can result in potentially misleading conclusions about the role of risk aversion in the insurance decisions.
Keywords: Risk aversion, Medicare Part D, heterogeneous preferences, insurance demand, survey design
JEL classification: D03, D81, H51, I1

Full text in pdf format:

373.pdf

Repeated moral hazard and contracts with memory: A laboratory experiment

Abstract:

This paper reports data from a laboratory experiment on two-period moral hazard problems. The findings corroborate the contract-theoretic insight that even though the periods are technologically unrelated, due to incentive considerations principals can benefit from offering long-term contracts that exhibit memory.
Keywords: Repeated moral hazard; Sequential hidden actions; Laboratory experiment
JEL classification: D82; J33

Full text in pdf format:

372.pdf

Security bid auctions for agency contracts

Abstract:

A principal uses security bid auctions to award an incentive contract to one among several agents, in the presence of hidden action and hidden information. Securities range from cash to equity and call options. “Steeper” securities are better surplus extractors that narrow the gap between the two highest valuations, yet reduce effort incentives. In view of this trade-off, the generalized equity auction that includes a (possibly negative) cash reward to the winner tends to outperform all other auctions, although it cannot extract the entire surplus and implement efficient effort. Hence, profit sharing emerges without risk aversion or limited liability.
Keywords: Auctions, agency problems, licensing, innovation, mechanism design.
JEL classification: D21, D43, D44, D45.

Full text in pdf format:

371_02.pdf

The Theory of the Firm goes Global

Abstract:

What insights can be gained from bringing the theory of the firm to the global economy? I discuss several new features of the world economy that can be explained by incorporating the theory of the firm into the theory of international trade. Among the new features I discuss are the move to flatter corporate hierarchies and the decentralization of authority in firms, the “war for talent”, the rise of CEO pay in rich countries, organizational convergence across countries, and firm heterogeneity.

Full text in pdf format:

370_01.pdf

Cartel Duration and Endogenous Private Monitoring and Communication: An Instrumental Variables Approach

Abstract:

Colluding firms often exchange private information and make transfers within the cartels based on the information. Estimating the impact of such collusive practices— known as the “lysine strategy profile (LSP)”— on cartel duration is difficult because of endogeneity and omitted variable bias. I use firms’ linguistic differences as an instrumental variable for the LSP in 135 cartels discovered by
the European Commission since 1980. The incidence of the LSP is not  significantly related to cartel duration. After correction for selectivity in the decision to use the LSP, statistical tests are consistent with a theoretic prediction that the LSP increases cartel duration.
Keywords: the lysine strategy profile, post-agreement information exchange, within-cartel transfers, monitoring, verification and promotion of compliance, cartel duration, endogenous covariates
JEL classification: D43, K21, K42, L13.

Full text in pdf format:

369.pdf

Overconfidence and Managers’ Responsibility Hoarding

Abstract:

Overconfidence is a well-established behavioral phenomenon that involves an overestimation of own capabilities. We introduce a model, in which managers and agents exert effort in a joint production, after the manager decides on the allocation of the tasks. A rational manager tends to delegate the critical task to the agent more often than given by the efficient task allocation. In contrast, an overconfident manager is more likely to hoard responsibility, i.e. to delegate the critical task less often than a rational manager. In fact, a manager with a sufficiently high ability and a moderate degree of overconfidence increases
the total welfare by hoarding responsibility and exerting more effort than a rational manager. Finally, we derive the conditions under which responsibility hoarding can persist in an organization, showing that the bias survives as long as the overconfident manager can rationalize the observed output by underestimating the ability of the agent.
Key Words: organizational behavior, management performance, bounded rationality, behavioral bias
JEL classification: C72, D03, D82, M12, M54

Full text in pdf format:

368.pdf

The Organization of European Multinationals

Abstract:

Recent literature on international trade has established that the most productive rms become multinationals. But our data reveal a startling variation in productivity levels of foreign aliates across the countries in Eastern Europe of the same European multinational parent rms suggesting that not all multinationals transplant their home productivity advantage to the new EU Member States and Emerging Europe. One candidate for this startling difference in productivity levels among foreign aliates is the ability of European multinationals to transport their business model abroad. This paper examines the conditions under which European multinationals give autonomy to their subsidiaries and delegate authority to them. We also analyse the conditions under which European multinationals transplant their business model to Eastern Europe. We collect original and unique matched parent and aliate data on the internal organization of 660 German and Austrian parent rms and 2200 of their subsidiaries in Eastern Europe including the former Soviet Union. We test the hypothesis that the ability of European multinationals to transplant their business model to foreign aliates is determined by the organization of European multinationals on the one hand and the market environment their aliate rms face in Eastern Europe on the other hand. We show that the business culture of parent rms accounts for about 50 percent of the variation of the organization of subsidiaries, while the market environment of subsidiaries contributes the rest.

Full text in pdf format:

367_01.pdf

The Timing of Climate Agreements under Multiple Externalities

Abstract:

We study the potential of cooperation in global emission abatements with multiple externalities. Using a two-country model without side-payments, we identify the strategic effects under different timing regimes of cooperation. We obtain a positive complementarity effect of long-term cooperation in abatement on R&D levels that boosts potential benefit of long-term cooperation and a redistributive effect that destabilizes long-term cooperation when countries are asymmetric. We show that whether and what type of cooperation is sustainable, depends crucially on the kind rather than on the magnitude of asymmetries.

Keywords: climate treaty; timing of cooperation; multiple externalities; long-term commitment

JEL classification: D62, F53, H23, Q55

November 2011

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366.pdf

Experimentation in Two-Sided Markets

Abstract:

We study optimal experimentation by a monopolistic platform in a two-sided market framework. The platform provider faces uncertainty about the strength of the externality each side is exerting on the other. It maximizes the expected present value of its profit stream in a continuous-time infinite-horizon framework by setting participation fees or quantities on both sides. We show that a price-setting platform provider sets a fee lower than the myopically optimal level on at least one side of the market, and on both sides if the two externalities are of approximately equal strenght. If the externality that one side exerts is sufficiently weaker than the externality it experiences, the optimal fee on this side exceeds the myopically optimal level. We obtain analogous results for expected prives when the platform provider chooses quantities. While the optimal policy does not admin closed-form representations in general, we identify special cases in which the undiscounted limit of the model can be solved in closed form.
Keywords: Two-Sided Market, Network Effects, Monopoly Experimentation, Bayesian Learning, Optimal Control
JEL classification: D42, D83, L12

Full text in pdf format:

365.pdf

Vicarious Liability and the Intensity Principle

Abstract:

The present paper provides an economic analysis of vicarious liability that takes information rents and monitoring costs to be borne by the principal explicitly into account. In the presence of information rents or if the principal is wealth constrained herself, vicarious liability need not generate efficient precaution incentives. Rather, precaution incentives turn out to depend on the exact quantum of damages specified by courts. I shall compare incentives under three damages
regimes: strict liability, the traditional negligence rule, and proportional liability. To do so, I make use of the intensity principle that allows to rank damages regimes based on the monotonicity of differences of the principal's expected payof f as a function of induced precaution.

Keywords: vicarious liability, precaution incentives, judgement-proof principals and agents, discrepancy between private and social costs

JEL classification: K13, D62

October 2011

Full text in pdf format:

364.pdf

The Benefits of Sequential Screening

Abstract:

This paper considers the canonical sequential screening model and shows that when the agent has an expost outside option, the principal does not benefit from eliciting the agent’s information sequentially. Unlike in the standard model without expost outside options, the optimal contract is static and conditions only on the agent’s aggregate final information. The benefits of sequential screening in the standard model are therefore due to relaxed participation rather than relaxed incentive compatibility constraints. We argue that in the presence of expost participation constraints, the classical, local approach fails to identify binding incentive constraints and develop a novel, inductive procedure to do so instead. The result extends to the multi–agent version of the problem.

Keywords: Sequential screening, dynamic mechanism design, participation constraints, Mirrlees approach

JEL Classification: D82, H57

October 2011

Full text in pdf format:

363.pdf

A Note on “Modeling the Birth and Death of Cartels with An Application to Evaluating Competition Policy” by Harrington and Chang (2009)

Abstract:

Full text in pdf format:

362.pdf

Institutions and Contract Enforcement

Abstract:

We provide evidence on how two important types of institutions – dismissal barriers, and bonus pay – affect contract enforcement behavior in a market with incomplete contracts and repeated interactions. Dismissal barriers are shown to have a strong negative impact on worker performance, and market efficiency, by interfering with firms' use of firing threat as an incentive device. Dismissal barriers also distort the dynamics of worker effort levels over time, cause firms to rely more on the spot market for labor, and create a distribution of relationship lengths in the market that is more extreme, with more very short and more very long relationships. The introduction of a bonus pay option dramatically changes the market  outcome. Firms are observed to substitute bonus pay for threat of firing as an incentive device, almost entirely offsetting the negative incentive and efficiency effects of dismissal barriers. Nevertheless, contract enforcement behavior remains fundamentally changed, because the option to pay bonuses causes firms to rely less on long-term relationships. Our results show that market outcomes are the result of a complex interplay between contract enforcement policies and the institutions in which they are embedded.

Keywords: incomplete contracts, bonus pay, efficiency wages, employment protection, firing costs, experiment

JEL Classification:  J41, J3, C9, D01

May 2011

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361.pdf

Performance Pay and Multidimensional Sorting - Productivity, Preferences and Gender

Abstract:

This paper studies the impact of incentives on worker self-selection in a controlled laboratory experiment. Subjects face the choice between a fixed and a variable payment scheme. Depending on the treatment, the variable payment is a piece rate, a tournament or a revenue-sharing scheme. We find that output is higher in the variable pay schemes (piece rate, tournament, and revenue sharing) compared to the fixed payment scheme. This difference is largely driven by productivity sorting. In addition personal attitudes such as willingness to take risks and relative self-assessment as well as gender affect the sorting decision in a systematic way. Moreover, self-reported effort is significantly higher in all variable  pay conditions than in the fixed wage condition. Our lab findings are supported by an additional analysis using data from a large and representative sample. In sum, our findings underline the importance of multi-dimensional sorting, i.e., the tendency for different incentive schemes to systematically attract people with different individual characteristics.

Keywords: Sorting, Incentives, Piece Rates, Tournament, Revenue-Sharing, Risk Preferences, Social Preferences, Gender, Experiment, Field Evidence

JEL Classification: J3, M52, C91, D81, J16

May 2011

Full text in pdf format:

360_01.pdf

Competition and Relational Contracts: The Role of Unemployment as a Disciplinary Device

Abstract:

When workers are faced with the threat of unemployment, their relationship with a particular firm becomes valuable. As a result, a worker may comply with the terms of a relational contract that demands high effort even when performance is not enforceable by a third party. But can relational contracts motivate high effort when workers can easily find alternative jobs? We examine how competition for labor affects the emergence of relational contracts and their effectiveness in overcoming moral hazard in the labor market. We show that effective relational contracts do emerge in a market with excess demand for labor. Long-term relationships turn out to be less frequent when there is excess demand for labor than they are in a market characterized by exogenous unemployment. However, stronger competition for labor does not impair labor market efficiency: higher wages induced by competition lead to higher effort out of concerns for reciprocity.

Keywords: Relational Contracts, Involuntary Unemployment

JEL Classification: D82, J3, J41, E24, C9

May 2011

Full text in pdf format:

359.pdf

Reference Points and Effort Provision

Abstract:

A key open question for theories of reference-dependent preferences is what determines the reference point. One candidate is expectations: what people expect could affect how they feel about what actually occurs. In a real-effort experiment, we manipulate the rational expectations of subjects and check whether this manipulation influences their effort provision. We find that effort provision is significantly different between treatments in the way predicted by models of expectation-based reference-dependent preferences: if expectations are high, subjects work longer and earn more money than if expectations are low.

Keywords: Reference Points, Expectations, Loss Aversion, Disappointment, Experiment

JEL Classification: C91, D01, D84, J22

May 2011

Full text in pdf format:

358.pdf

Authorized Generic Entry prior to Patent Expiry: Reassessing Incentives for Independent Generic Entry

Abstract:

Patent holders attempt to mitigate the loss of monopoly power by authorizing generic entry prior to patent expiry (early entry). Off-patent competition may be adversely aected if early entry substantially lowers the attractiveness of  subsequent generic entry. This study assesses the impact of early entry, examining generic entry decisions made in the course of recent patent expiries. Using micro data and accounting for the endogeneity of early entry, I estimate recursive bivariate probit models of entry. Early entry has no significant impact on the likelihood of generic entry. Rent-seeking rather than strategic entry-deterrence motives drive early entry decisions.

Keywords: Generic Entry, Early Entry, Anticompetitive Practices
JEL Classification: L41, I11, O34, C35

April 2010

Full text in pdf format:

357.pdf

Incidence and Growth of Patent Thickets - The Impact of Technological Opportunities and Complexity

Abstract:

We investigate incidence and evolution of patent thickets. Our empirical analysis is based on a theoretical model of patenting in complex and discrete  technologies. The model captures how competition for patent portfolios and complementarity of patents affect patenting incentives. We show that lower technological opportunities increase patenting incentives in complex technologies while they decrease incentives in discrete technologies. Also, more competitors increase patenting incentives in complex technologies and reduce them in discrete technologies. To test these predictions a new measure of the density of patent thickets is introduced. European patent citations are used to construct measures of fragmentation and technological opportunity. Our empirical analysis is based on a panel capturing patenting behavior of 2074 firms in 30 technology areas over 15 years. GMM estimation results confirm the predictions of our theoretical model. The results show that patent thickets exist in 9 out of 30 technology areas. We find that decreased technological opportunities are a surprisingly strong driver of patent thicket growth.

Keywords: Patenting, Patent thickets, Patent portfolio races, Complexity, Technological Opportunities.

JEL Classification: L13, L20, O34.

April 2011

Full text in pdf format:

356.pdf

Dynamic Coordination via Organizational Routines

Abstract:

We investigate dynamic coordination among members of a problem solving team who receive private signals about which of their actions are required for a (static) coordinated solution and who have repeated opportunities to explore different action combinations. In this environment ordinal equilibria, in which agents condition only on how their signals rank their actions and not on signal strength, lead to simple patterns of behavior that have a natural interpretation as routines. These routine spartially solve the team’s coordination problem by synchronizing the team’s search efforts and prove to be resilient to changes in the environment by being expost equilibria, to agents having only a coarse understanding of other agents’ strategies by being fully cursed, and to natural forms of agents’ overconfidence. The price of this resilience is that optimal routines are frequently not optimal equilibria.

January 2011

Full text in pdf format:

355.pdf

How Effective is European Merger Control?

Abstract:

This paper applies an intuitive approach based on stock market data to a unique dataset of large concentrations during the period 1990-2002 to assess the effectiveness of European merger control. The basic idea is to relate announcement and decision abnormal returns. Under a set of four maintained assumptions, merger control might be interpreted to be effective if rents accruing due to the increased market power observed around the merger announcement are reversed by the antitrust decision, i.e. if there is a negative relation between announcement and decision abnormal returns. To clearly identify the events’ competitive effects, we explicitly control for the market expectation about the outcome of the merger control procedure and run several robustness checks to assess the role of our maintained assumptions. We find that only outright prohibitions completely reverse the rents measured around a merger’s announcement. On average, remedies seem to be only partially capable of reverting announcement abnormal returns. Yet they seem to be more effective when applied during the first rather than the second investigation phase and in subsamples where our assumptions are more likely to hold. Moreover, the European Commission appears to learn over time.

Keywords: Merger Control, Remedies, European Commission, Event Studies
JEL Classification: L4, K21, G34, C2, L2

April 2011

Full text in pdf format:

354.pdf

Evaluating Leniency with Missing Information on Undetected Cartels: Exploring Time-Varying Policy Impacts on Cartel Duration

Abstract:

This paper examines the effects of European Commission’s (EC) new leniency program on the EC’s capabilities in detecting and deterring cartels. As a supplementary analysis, the US leniency is studied. I discuss a dynamic model of cartel formation and dissolution to illustrate how changes in antitrust policies and economic conditions might affect cartel duration. Comparative statics results are then corroborated with empirical estimates of hazard functions adjusted to account for both the heterogeneity of cartels and the time-varying policy impacts suggested by theory. Contrary to earlier studies, my statistical tests are consistent with the theoretic predictions that following an efficacious leniency program, the average duration of discovered cartels rises in the short run and falls in the long run. The results shed light on the design of enforcement programs against cartels and other forms of conspiracy.

Keywords: evaluation of antitrust policies, leniency, time-varying policy effects, missing observations,

sample selection bias.

Journal of Economic Literature Classification Numbers: D43, K21, K42, L13.

Full text in pdf format:

353_01.pdf

The efficient provision of public goods through non-distortionary tax contests

Abstract:

We use a simple balanced budget contest to collect taxes on a private good in order to finance a pure public good. We show that-with an appropriately chosen structure of winning probabilities-this contest can provide the public good efficiently and without distorting private consumption. We provide extensions to multiple public goods and private taxation sources, asymmetric preferences, and show the mechanism’s robustness across these settings.

Keywords: Taxation, Contests, Efficiency

JEL Classification: C7, D7

March 2011

Full text in pdf format:

352.pdf

How to allocate Research (and other) Subsidies

Abstract:

A budget-constrained buyer wants to purchase items from a short-listed set. Items are differentiated by observable quality and sellers have private reserve prices for their items. The buyer’s problem is to select a subset of maximal quality. Money does not enter the buyer’s objective function, but only his constraints. Sellers quote prices strategically, inducing a knapsack game. We derive the Bayesian optimal mechanism for the buyer’s problem. We find that simultaneous take-it-or-leave-it offers are optimal. Hence, somewhat surprisingly, ex-postcompetition is not required to implement optimality. Finally, we discuss the problem in a detail free setting.

Keywords: Mechanism Design, Subsidies, Budget, Procurement, Knapsack Problem

JEL Classification: D21, D44, D45, D82

March 2011

Full text in pdf format:

351.pdf

Ownership and Control in a Competitive Industry

Abstract:

We study a differentiated product market in which an investor initially owns a controlling stake in one of two competing firms and may acquire a non-controlling or a controlling stake in a competitor, either directly using her own assets, or indirectly via the controlled firm. While industry profits are maximized within a symmetric two product monopoly, the investor attains this only in exceptional cases. Instead, she sometimes acquires a noncontrolling stake. Or she invests asymmetrically rather than pursuing a full takeover if she acquires a controlling one. Generally, she invests indirectly if she only wants to affect the product market outcome, and directly if acquiring shares is profitable per se.

Keywords: Differentiated products, separation of ownership and control, private benefits of control.
JEL Classification: L13, L41.
February 2011

Full text in pdf format:

350.pdf

Competition and Trust: Evidence from German Car Manufacturers

Abstract:

We explore the determinants and effects of trust relationships between upstream suppliers and downstream producers. Using unique survey data on individual supplier-buyer relationships in the German automotive industry, we show, by means of different measures of supplier-buyertrust, tha thigher levels of trust mitigate relationship-specific underinvestment in a classical hold-up situation. Moreover, contrary to the extant literature, we show that higher levels of supplier’s trust are reflected in the buyer’s choice of a more competitive procurement strategy among potential suppliers.

Keywords: Trust, Hold-up problem, Competition, Specific investment, Suppliers, Car manufacturers, German automotive industry

JEL Classification: D86,D22,L22,L62

February 2011

Full text in pdf format:

349.pdf

Determinants of Noneconomic Damages in Medical Malpractice Settlements and Litigations: Evidence from Texas since 1988

Abstract:

There have long been claims that compensations for noneconomic damages are random because tort law does not provide clear guidance regarding these compensations. I investigate, in both settled and tried medical malpractice cases, whether noneconomic damage payments are arbitrary and what determines the probability and size of these payments. I find that payments for noneconomic damages are not completely random. They vary, in predictable ways, with observable characteristics of the case. The data suggest similar patterns in non-medical malpractice cases. I end by discussing the implications of my findings for the debate on the efficiency and rationale of noneconomic damage compensation.

JEL Classification: K13, K32, K41

December 2010

Full text in pdf format:

348.pdf

The Timing of Out-of-Court Settlements Revisited: Theory and Cross- Sectional Evidence from Texas since 1988

Abstract:

Legal institutions play an important role in affecting delay in settlement. But little research has investigated the institutional causes of delay. The empirical literature is ambiguous regarding the impact of trial-court delay on settlement delay. I analyze the timing of bargaining and the causes of delay using a cross-section of insurance claims in Texas over a 20-year span. I discuss a dynamic model of pretrial negotiation to illustrate how changes in the legal systems might affect the duration of settlement. Comparative statics results are then corroborated with empirical estimates of a hazard function adjusted to account for the heterogeneity of claims and the time dependence suggested by theory. Statistical tests are consistent with the theoretic prediction that delay in trial courts expedites out-of-court settlement. I also find that alternative dispute resolution, a legal process designed to save transaction costs, reduces the rapidity of settlement. Prejudgement interest, a law introduced to reduce delay, actually causes a greater delay in settlement. The results have implications for efficiency of the judicial system and reform efforts aiming to reduce delay.

Keywords: settlement delay, trial-court delay, prejudgment interest, alternative dispute resolution

JEL-Classification: C78, K41

December 2010

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347_01.pdf

Jackpot Justice: The Value of Inefficient Litigation

Abstract:

Litigation seems to be a Pareto-ineffcient outcome of pretrial bargaining; however, this paper shows that litigation can be the outcome of rational behavior by a litigant and her attorney. If the attorney has more information than his client concerning the characteristics of the lawsuit, the client can use litigation as a way of extracting information. I show that, counterintuitively, litigation will occur only when the plaintiff is pessimistic about her prospects at trial. Even if the plaintiff could obtain a higher payoff from bargaining than from litigation-without-bargaining, bargaining may not occur in equilibrium. The plaintiff is more likely to sue if she is more pessimistic about winning damage in court and if litigation is more risky. Litigation is less likely to occur if the plaintiff receives third party financing for litigation.

Keywords: settlement-litigation decision, costs of bargaining, non-bargaining, delegation of dispute resolution, risks of litigation, plaintiff-characteristic dependence,low plaintiff win rates

JEL Classification: C78, D74, D86, K41

November 2010

Full text in pdf format:

346.pdf

The Impact of the Internet on Retail Competition: Evidence from Technological Differences in Internet Access

Abstract:

Does the internet increase competition? To address this question, I exploit two institutional details unique to Germany: (1) Some municipalities received glass fibre cables that cannot be upgraded to DSL; I use these municipalities as a treatment group with reduced online competition. (2) German law mandates resale price maintenance for books; I compare three retailing sectors, electronics (price competition), books (no price competition), and food (no online sales), to identify the effect of price competition: The effect of price competition is highly significant. Full broadband access reduces offline electronics retailers’ producer rents by 1.5 percent per year from 1999 to 2007.

Keywords: Internet, Market Structure, Retail Competition, Differences in Differences
JEL Classification: D43, L81, L13

November 2010

Full text in pdf format:

345.pdf

Free Riding in the Lab and in the Field

Abstract:

We run a public good experiment in the field and in the lab with (partly) the same subjects. The field experiment is a true natural field experiment as subjects do not know that they are exposed to an experimental variation. We can show that subjects' behavior in the classic lab public good experiment correlates with their behavior in the structurally comparable public good treatment in the field but not with behavior in any of two control treatments we ran in the field. This effect is also economically significant. We conclude that a) the classic lab public good experiment captures important aspects of structurally equivalent real life situations and b) that behavior in lab and field at least in our setting is driven by the same underlying forces.

Keywords: Field and Lab Experiments, External Validity, Public Goods, Team Production

JEL Classification: C91,C93,D01,D64

September 2010

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344.pdf

Collusion through Joint R&D: An Empirical Assessment

Abstract:

This paper tests whether upstream  R&D cooperation leads to downstream collusion. We consider an oligopolistic setting where firms enter in research joint ventures (RJVs) to lower production costs or coordinate on collusion in the product market. We show that a sufficient condition for identifying collusive behavior is a decline in the market share of RJV-participating firms, which is also necessary and sufficient for a decrease in consumer welfare. Using information from the US National Cooperation Research Act, we estimate a market share equation correcting for the endogeneity of RJV participation and R&D expenditures. We find robust evidence that large networks between direct competitors – created through firms being members in several RJVs at the same time – are conducive to collusive outcomes in the product market which reduce consumer welfare. By contrast, RJVs among non-competitors are efficiency enhancing.

Keywords: Research Joint Ventures, Innovation, Collusion, NCRA

JEL Classification: K21, L24, L44, D22, O32

November 2010

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343.pdf

Standards, Innovation Incentives, and the Formation of Patent Pools

Abstract:

Technological standards give rise to a complements problem that affects pricing and innovation incentives of technology producers. In this paper I discuss how patent pools can be used to solve these problems and what incentives patent holders have to form a patent pool. I offer some suggestions how competition authorities can foster the formation of welfare increasing patent pools.

Keywords: Patent pools, standard setting organisations, innovation, complements problem, patent thicket
JEL Classification: L15, L24, O3

November 2010

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342.pdf

Financial constraints and innovation: Why poor countries don't catchup

Abstract:

We examine micro-level channels of how financial development can affect macroeconomic outcomes like the level of income and export intensity. We investigate theoretically and empirically how financial constraints affect a firm's innovation and export activities, using unique firm survey data which provides direct measures for innovations and firm-specific financial constraints. We find that financial constraints restraint heability of domestically owned firms to innovate and export and hence to catch up to the technological frontiers. This negative effect is amplified as financial constraints force export and innovation activities to become substitutes although they are generally natural complements.

Keywords: innovation, productivity, financial constraint, export, technology frontier, BEEPS

JEL Classification: O3, O16, F1, G3

June 2010

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341.pdf

Exports Versus FDI Revisited: Does Finance Matter?

Abstract:

This paper explores the impact of financial constraints on the  internationalization strategies of firms. It contributes to the literature by focusing on three aspects: First, the paper studies the impact of financial constraints on exporting relative to FDI. Consistent with theory, the empirical results confirm  that the impact of financial constraints is stronger for FDI than for exporting. Second, the paper analyzes the extensive and the intensive margins and finds that financial frictions matter for  both. Third, the paper explores the impact on manufacturing as compared to service industries and shows that firms in service industries are affected more than firms in manufacturing. The paper also identifies a threshold effect: Financial constraints do not matter  for small firms whose productivity seems to be too low to consider international expansions.

Keywords: Multinational firms, exports versus FDI, financial constraints,
heterogeneity, productivity 

JEL Classification: F2, G2

November 2010

Full text in pdf format:

340.pdf

On Competition and the Strategic Management of Intellectual Property in Oligopoly

Abstract:

An innovative firm with private information about its indivisible process innovation chooses strategically whether to apply for a patent with probabilistic validity or rely on secrecy. By doing so, the firm manages its rivals’ beliefs about the size of the innovation, and affects the incentives in the product market. A Cournot competitor tends to patent big innovations, and keep small innovations secret, while a Bertrand competitor adopts the reverse strategy. Increasing the number of firms gives a greater (smaller) patenting incentive for Cournot (Bertrand) competitors. Increasing the degree of product substitutability increases the incentives to patent the innovation.

Keywords: Bertrand and Cournot competition, oligopoly, productdifferentiation,
asymmetric information, strategic disclosure, stochastic patent, tradesecret, process innovation, imitation

JEL Classification: D82, L13, O31, O32

October 2010

Full text in pdf format:

339.pdf

Two-sided Certification: The market for Rating Agencies

Abstract:

Certifiers contribute to the sound functioning of markets by reducing a symmetric information. They, however, have been heavily criticized during the 2008-09 financial crisis. This paper investigates on which side of the market a monopolistic profit-maximizing certifier offers his service. If the seller demands a rating, the certifier announces the product quality publicly, whereas if the buyer requests a rating it remains his private information. The model shows that the certifier offers his service to sellers and buyers to maximize his own profit with a higher share from the sellers. Overall, certifiers increase welfare in specific markets. Revenue shifts due to the financial crisis are also explained.

Keywords: Certification, Rating Agencies, Asymmetric Information, Financial Markets.
JEL Classification: G14, G24, L15, D82.

October 2010

Full text in pdf format:

338.pdf

An Empirical Assessment of the 2004 EU Merger Policy Reform

Abstract:

Based on a database of 326 merger cases scrutinized by the European Commission between 1990 and 2007, we evaluate the economic impact of the change in European merger legislation in 2004. We ?rst propose a general framework to assess merger policy effectiveness, which is based on standard oligopoly theory and makes use of stockmarket reactions as an external assessment of the merger and the merger control decision. We then focus on four different dimensions of effectiveness: 1) legal certainty; 2) frequency and determinants of type I and type II errors; 3) rent-reversion achieved by different merger policy tools; and 4) deterrence of anti-competitive mergers. To infer the economic impact of the merger policy reform, we compare the results of our four tests before and after its introduction. Our results suggest that the policy reform seems to have been only a modest improvement of European merger policy.

Keywords: merger control, regulatory reform, EU Commission, event-study

JEL Classification: L4, K21, C13, D78

October 2010

Full text in pdf format:

337.pdf

Horizontal mergers with synergies: first-price vs. profit-share auction

Abstract:

We consider takeover bidding in a Cournot oligopoly when firms have private information concerning the synergy effect of merging with a takeover target. Two auction rules are considered: standard first-price and profit-share auctions, supplemented by entry fees. Since non-merged firms benefit from a merger if the synergies are low, bidders are subject to a positive externality. Nevertheless, pooling does not occur; and the profit-share auction is strictly more profitable than the first-price auction, regardless of whether firms observe the synergy parameter or only the winning bid before they play the oligopoly game.

Keywords: Horizontal mergers, takeovers, auctions, externalities, oligopoly
JEL Classification: G34, D44, H23, L13, D43

October 2010

Full text in pdf format:

336.pdf

Fairness and Cheating

Abstract:

We present evidence from a laboratory experiment showing that individuals who believe they were treated unfairly in an interaction with another person are more likely to cheat in a subsequent unrelated game. Specifically, subjects first participated in a dictator game. They then flipped a coin in private and reported the outcome. Subjects could increase their total payoff by cheating, i.e., lying about the outcome of the coin toss. We found that subjects were more likely to cheat in reporting the outcome of the coin flip when: 1) they received either nothing or a very small transfer from the dictator; and 2) they claimed to have been treated unfairly. This is consistent with the view that experiencing a norm violation is sufficient to justify the violation of another norm at the expense of a third party. This result extends the growing literature on social norms.

Keywords: cheating; social norms; experimental design
JEL Classification: C91; D03; D63

September 2010

Full text in pdf format:

335.pdf

Information sharing in contests

Abstract:

We study the incentives to share private information ahead of contests, such as markets with promotional competition, procurement contests, or R&D. We consider the cases where firms have (i) independent values and (ii) common values of winning the contest. In both cases, when decisions to share information are made independently, sharing information is strictly dominated. With independent values, an industry-wide agreement to share information can arise in equilibrium. Expected effort is lower with than without information sharing. With common values, an industry-wide agreement to share information never arises in equilibrium. Expected effort is higher with than without information sharing.

Keywords: information sharing; contest; all-pay auction
JEL Classification: D82; D43; D44; L13; D74

September 2010

Full text in pdf format:

334.pdf

Strategic Learning in Teams

Abstract:

This paper analyzes a two-player game of strategic experimentation with three-armed exponential bandits in continuous time. Players face replica bandits, with one arm that is safe in that it generates a known payoff, whereas the likelihood of the risky arms’ yielding a positive payoff is initially unknown. It is common knowledge that the types of the two risky arms are perfectly negatively correlated. I show that the efficient policy is incentive-compatible if, and only if, the stakes are high enough. Moreover, learning will be complete in any Markov perfect equilibrium with continuous value functions if, and only if, the stakes exceed a certain threshold.

Keywords: Strategic Experimentation, Three-Armed Bandit, Exponential Distribution, Poisson Process, Bayesian Learning, Markov Perfect Equilibrium
JEL Classification: C73, D83, O32

July 2010

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333.pdf

Infinitely Repeated Games with Public Monitoring and Monetary Transfers

Abstract:

In this paper, we study infinitely repeated games with imperfect public monitoring and the possibility of monetary transfers. We develop an effcient algorithm to compute the set of pure strategy public perfect equilibrium payoffs for each discount factor. We also show how all equilibrium payoffs can be implemented with a simple class of stationary equilibria that use stick-and-carrot punishments.

July 2010

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332.pdf

Existence of a pure-strategy Bayesian Nash equilibrium in imperfectly discriminating contests

Abstract:

We consider a general class of imperfectly discriminating contests with privately informed players. We show that findings by Athey (2001) imply the existence of a Bayesian Nash equilibrium in monotone pure strategies.

Keywords: contest, imperfectly discriminating, asymmetric information, equilibrium existence, interdependent values

JEL Classification: D72, D74, D82, C72

July 2010

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331.pdf

Uncertain Demand, Consumer Loss Aversion, and Flat-Rate Tariffs

Abstract:

The so called flat-rate bias is a well documented phenomenon caused by consumers' desire to be insured against fluctuations in their billing amounts. This paper shows that expectation-based loss aversion provides a formal explanation for this bias. We solve for the optimal two-part tariff when contracting with loss-averse consumers who are uncertain about their demand. The optimal tariff is a flat rate if marginal cost of production is low compared to a consumer's degree of loss aversion and if there is enough variation in the consumer's demand. Moreover, if consumers differ with respect to the degree of loss aversion, firms' optimal menu of tariffs typically comprises a flat-rate contract.

Keywords: Consumer Loss Aversion; Flat-Rate Tariffs; Nonlinear Pricing; Uncertain Demand

JEL Classification: D11; D43; L11

July 2010

Full text in pdf format:

330.pdf

Optimal Incentive Contracts under Moral Hazard When the Agent is Free to Leave

Abstract:

We characterize optimal incentive contracts in a moral hazard framework extended in two directions. First, after effort provision, the agent is free to leave and pursue some ex-post outside option. Second, the value of this outside option is increasing in effort, and hence endogenous. Optimal contracts may entail properties such as inducing first-best effort and surplus, or non-responsiveness with respect to changes in verifiable parameters. Moreover, while always socially inefficient, separation might occur in equilibrium. Except for the latter, these findings are robust to renegotiation. When the outside option is exogenous instead, the standard results obtain.

Keywords: moral hazard, limited commitment, ex-post outside option, limited liability
JEL Classification: D86, D82, K31, M52

July 2010

Full text in pdf format:

329.pdf

Commitment in R&D Tournaments via Strategic Delegation to Overoptimistic Managers

Abstract:

This paper shows that it is profitable for a firm to hire an overoptimistic manager to commit to a certain investment strategy in an R&D tournament situation. In the unique symmetric equilibrium, all firms delegate to overoptimistic managers, where the optimal degree of overoptimism depends on the riskiness of the tournament. In these situations a manager’s type may serve as a substitute for delegation via contracts. By delegating to overoptimistic managers, firms can escape the rat race nature of R&D tournaments.

Keywords: Strategic Delegation, Overoptimism, Tournaments

JEL Classification: J 32, J 33, M 12

July 2010

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328.pdf

Incentives, Reputation and the Allocation of Authority

Abstract:

We address the question how much authority a principal should delegate to a manager with conflicting interests and uncertain ability in a context in which the manager has both compensationbased and reputational incentives. The optimal level of authority balances the value of the manager’s decision-making expertise against the cost of ensuring that the manager uses his discretion productively. Reputational incentives reduce the necessary monetary incentives to discourage purely opportunistic behavior, but may cause the manager to pursue conservative courses of action to preserve his reputation. This undermines the benefits of delegating control, leading to decreased  managerial authority and stronger monetary incentives. When the principal can commit to long-term contracts, she eliminates this conservative bias by rewarding a successful manager with greater future compensation and authority than would be optimal in a static setting. Early in the relationship the principal may delegate additional authority in order to screen for managers of high ability.

Keywords: Agency Problems; Delegation; Compensation Contracts; Job Design; Career Concerns; Managerial Conservatism

JEL Classification: D86, L14, L23, M52, M54

July 2010

Full text in pdf format:

327.pdf

Determinants and Effects of Reserve Prices in Hattrick Auctions

Abstract:

We use a unique hand collected data set of 6,258 auctions from the online football manager game Hattrick to study determinants and effects of reserve prices. We find that chosen reserve prices exhibit both very sophisticated and suboptimal behavior by the sellers. On the one hand, reserve prices are adjusted remarkably nuanced to the resulting sales price pattern. However, reserve prices are too clustered at zero and at multiples of e 50,000 as to be consistent with fully rational behavior. We recover the value distribution and simulate the loss in expected revenue from suboptimal reserve prices. Finally, we find evidence for the sunk cost fallacy as there is a substantial positive effect on the reserve price when the player has been acquired previously.

Keywords: Reserve Price, Auction Revenue, Inattention, Price Clusters, Sunk Cost Fallacy

JEL Classification: D12, D44

July 2010

Full text in pdf format:

326.pdf

Heterogeneous Contestants and Effort Provision in Tournaments - an Empirical Investigation with Professional Sports Data

Abstract:

We empirically investigate if tournaments between heterogeneous contestants are less intense. To test our hypotheses we use professional sports data from the TOYOTA Handball-Bundesliga, the major handball league in Germany. Using either differences in betting odds or rankings to measure ability differences, our results support standard tournament theory as we find a highly significant negative impact of the matchup's heterogeneity on joint teame efforts. However, further analysis shows that this overall decrease in efforts is almost entirely driven by the reaction of the ex-ante favorite team.

Keywords: tournament, heterogeneity, incentives, sportseconomics

JEL Classification: J24, J33, J41, M52

July 2010

Full text in pdf format:

325.pdf

Separating Equilibria with Imperfect Certification

Abstract:

Viscusi (1978) shows how, in markets with quality uncertainty, perfect certification results in separation from top down due to an unraveling process similar to Akerlof (1970). De and Nabar (1991) argue that imperfect certification prevents unraveling so that equilibria with full separation do not exist. This note shows that, if one considers the buyers' buying decision explicitly, a separating equilibrium with imperfect certification does exist.

Keywords: certification, unraveling, separating equilibrium
JEL Classification: D82, L15

June 2010

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324.pdf

Who Should Pay for Certification?

Abstract:

Who does, and who should initiate costly certification by a third party under asymmetric quality information, the buyer or the seller? Our answer — the seller — follows from a non–trivial analysis revealing a clear intuition. Buyer–induced certification acts as an inspection device, whence seller–induced  certification acts as a signalling device. Seller–induced certification maximizes the certifier’s profit and social welfare. This suggests the general principle that certification is, and should be induced by the better informed party. The results are reflected in a case study from the automotive industry, but apply also to other markets – in particular the financial market.

Keywords: asymmetric information, certification, information acquisition, inspection, lemons, middlemen, signaling

JEL Classification: D40, D82, L14, L15

June 2010

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323.pdf

Mediated Contracts and Mechanism Design

Abstract:

This note relates the mechanisms that are based on mediated contracts of Rahman and Obara (2010) to the mechanisms of Myerson (1982). It shows that the mechanisms in Myerson (1982) are more general in that they encompass the mechanisms based on mediated contracts. It establishes an equivalence between the two classes if mediated contracts are allowed to be stochastic.

Keywords: mediatedcontract, mechanismdesign, revelationprinciple, moralhazard

May 2010

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322.pdf

On Liability Insurance for Automobiles

Abstract:

Car owners are liable for property damage inflicted on other motorists. In most countries such liability must be insured by law. That law may favor expensive or heavy vehicles, prone to suffer or inflict large losses. This paper explores links between liability rules and vehicle choice. It presumes cooperative insurance, but non-cooperative acquisition of vehicles. Thus, the Nash equilibrium and its degree of efficiency depend on the liability regime. 

Keywords: liability, mutual insurance, core, pure Nash equilibrium, anonymous games, non-atomic measure

JEL Classification: C71, C72, D61, K13

May 2010

Full text in pdf format:

321.pdf

Using Forward Contracts to Reduce Regulatory Capture

Abstract:

A fully unbundled, regulated network firm of unknown efficiency level can untertake unobservable effort to increase the likelihood of low downstream prices, e.g. by facilitating downstream competition. To incentivize such effort, the regulator can use an incentive scheme paying transfers to the firm contingent on realized downstream prices. Alternatively, the regulator can force the firm to sell the following forward contracts: the firm pays the downstream price to the owners of a contract, but recieves the expected value of the contracts when selling them to a competivitve financial market. We compare the two regulatory tools with respect to regulatory capture: if the regulator can be bribed to suppress information on the underlying state of the world (the basic propability of high downstream prices, or the type of the firm), optimal regulation uses forward contracts only.

Keywords: incentive regulation, regulatory capture, virtual power plants

JEL Classification: L42, L51, K23, L94

February 2010

Full text in pdf format:

320.pdf

Consumer Loss Aversion and the Intensity of Competition

Abstract:

Consider a differentiated product market in which all consumers are fully informed about match value and price at the time they make their purchasing decision. Initially, consumers become informed about the prices of all products in the market but do not know the match values. Some consumers have reference-dependent utilities—i.e., they form a reference-point distribution with respect to match value and price that will make them realize gains or losses if their eventually chosen product performs better or, respectively, worse than their reference point in both dimensions. Loss aversion in the match-value dimension leads to a less competitive outcome, while loss aversion in the price dimension leads to a more competitive equilibrium than a market in which consumers are not subject to reference dependence. Depending on the weights consumers attach to the price and the match-value dimension, a market with loss-averse consumers may be more or less competitive than a market with consumers that do not have reference-dependent utilities. We also show that consumer loss aversion tends to lead to higher prices if the market accommodates a larger number of firms.

Keywords: Loss Aversion, Reference-Dependent Utility, Behavioral Industrial Organization, Imperfect Competition, Product Differentiation

JEL Classification: D83,L13,L41,M37

May 2010

Full text in pdf format:

319.pdf

Hierarchical Structures and Dynamic Incentives

Abstract:

We study the optimal hierarchical structure of an organization under limited commitment. The organization cannot make a long term commitment to wages and output levels, while it can commit to its hierarchical structure. We show that the optimal hierarchical structure is horizontal when it is highly likely that the employees are efficient or inefficient.
By contrast, when such likelihood is intermediate or output does not expand very fast over time, the optimal hierarchical structure is vertical - with a vertical hierarchy, the organization can mitigate dynamic incentive problems linked to limited commitment.

Key words: Dynamic Incentives, Organization Design

JEL Classification: D82, D86

April 2010

Full text in pdf format:

318.pdf

Exports and Productivity: An Empirical Analysis of German and Austrian Firm-Level Performance

Abstract:

This paper studies the relationship between export activities and firm-level productivity. Unique matching of German and Austrian micro data from 1994 to 2003 suggests that exporters are more productive by around 40 percent compared with non-exporters. Moreover, beside other analysis techniques,
instrumental variable estimations suggest that exporting causes a rise in firm-level productivity. That is, the annual average growth rate of an exporting firm's productivity is between about 1 and 1.5 percent higher than that of non-exporters. It allows the conclusion that, against other findings of existing studies, both directions hold: more productive firms self-select themselves into export markets and being active in foreign markets boosts firm-level productivity.

JEL Classification: D24; F13; F23; L22; L23; O47

April 2010

Full text in pdf format:

317.pdf

Tariff Rates, Offshoring and Productivity: Evidence from German and Austrian Firm-Level Data

Abstract:

This paper studies the impact of trade liberalization in terms of tariff cuts within the Eastern European enlargement on German and Austrian firm productivity. Unique matching of data from 1994 to 2003 suggests that tariff reductions raise parent firm productivity significantly. A ten percentage point decrease in tariff rates can lead to total factor productivity gains of up to 2 percent. The data allow distinction between three types of tariffs: output, intra-firm and input tariff rates. The size of the results strongly depends on the type of tariff and country analyzed.

JEL Classification: F12; F13; F23; L22; L23; O14

April 2010

Full text in pdf format:

316.pdf

Innovation and the International Firm Structure: Theory and Evidence from German Firm-Level Data

Abstract:

This paper studies the impact of innovation on the organizational structure. The theoretical framework predicts that a larger parental pool of knowledge raises the probability of offshoring. This holds in a national as well as an international context. However, when the producer loses territorial protection, the changeover from non-integration to integration is delayed. Employing data on German firms investing in Eastern Europe finds empirical evidence for the theoretical predictions. The results are robust to different measurements and an instrumental variable regression.

JEL Classification: D23; D51; F23; L14; L21; L22; L23

April 2010

Full text in pdf format:

315.pdf

Information acquisition in conflicts

Abstract:

This paper considers incentives for information acquisition ahead of conflicts. First, we characterize the (unique) equilibrium of the all-pay auction between two players with one-sided asymmetric information where one player has private information about his valuation. Then, we use ou rresults to study information acquisition prior to an all-pay auction. If the decision to acquire information is observable, but not the informatio nreceived, one-sided asymmetric information can occur endogenously in equilibrium. Moreover, the cutoff values of the cost of information that determine equilibrium information acquisition are higher  than in the first best.  Thus, information  acquisition is excessive. Incontrast, with open or covert information acquisition,  the equilibrium cut-off values are as in the  first best.

 
Keywords: All-pay auctions; Conflicts; Contests; Information acquisition;
Asymmetric information
JEL Classification: D72; D74; D82; D83

March 2010

Full text in pdf format:

314.pdf

Centralizing Information in Networks

Abstract:

Abstract: In the dynamic game we analyze, players are the members of a fixed network. Everyone is initially endowed with an information item that he is the only player to hold. Players are offered a finite number of periods to centralize the initially dispersed items in the hands of any one member of the network. In every period, each agent strategically chooses whether or not to transmit the items he holds to his neighbors in the network. The sooner all the items are gathered by any individual, the better it is for the group of players as a whole. Besides, the agent who first centralizes all the items is offered an additional reward that he keeps for himself. In this framework where information transmission is strategic and physically restricted, we provide a necessary and suffcient condition for a group to pool information items in every equilibrium. This condition is independent of the network structure. The architecture of links however affects the time needed before items are centralized in equilibrium.

Keywords: communication network, communication dilemma, dynamic network game, strategic

JEL Classification: D83, C72, L22

April 2010

Full text in pdf format:

313.pdf

Pricing and Information Disclosure in Markets with Loss-Averse Consumers

Abstract:

Abstract: We develop a theory of imperfect competition with loss-averse consumers. All consumers are fully informed about match value and price at the time they make their purchasing decision. However, a share of consumers are initially uncertain about their tastes and form a reference point consisting of an expected match value and an expected price distribution, while other consumers are perfectly informed all the time. We derive pricing implications in duopoly with asymmetric firms. In particular, we show that a market may exhibit more price variation the larger the share of uninformed, loss-averse consumers. We also derive implications for firm strategy and public policy concerning firms’ incentives to inform consumers about their match value prior to forming their reference point.

Keywords: Loss Aversion, Reference-Dependent Utility, Information Disclosure,
Price Variation, Advertising, Behavioral Industrial Organization, Imperfect Competition, Product Differentiation

JEL Classification: D83, L13, L41, M37

April 2010

Full text in pdf format:

312.pdf

Rent-seeking Contests under Symmetric and Asymmetric Information

Abstract:

We consider a variant of the Tullock rent-seeking contest. Under symmetric information we determine equilibrium strategies and prove their uniqueness. Then, we assume contestants to be privately informed about their costs of effort. We prove existence of a pure-strategy equilibrium and provide a sufficient condition for uniqueness. Comparing different informational settings we find that if players are uncertain about the costs of all players, aggregate effort is lower than under both private and complete information. Yet, under additional assumptions, rent dissipation is still smaller in the latter settings. Numerical examples illustrate that there is no general ranking between private and complete information. The results depend on the distribution costs are drawn from and on the exact specification of the contest success function.

Keywords: Rent-seeking, Contest, Asymmetric Information, Private values

JEL Classification: D72, D74, D82, C72

March 2010

Full text in pdf format:

311.pdf

A dynamic auction for multi-object procurement under a hard budget constraint

Abstract:

We present a new dynamic auction for procurement problems where payments are bounded by a hard budget constraint and money does not enter the procurer's objective function.

Keywords: Auctions, Mechanism Design, Knapsack Problem, Dominant Strategy, Budget, Procurement

JEL Classification: D21, D44, D45, D82

March 2010

Full text in pdf format:

310.pdf

Returns to Inventors

Abstract:

A key input to inventive activity is human capital. Hence it is important to understand the monetary incentives of inventors. We estimate the effect of patented inventions on individual earnings by linking data on U.S. patents and their inventors to Finnish employer-employee data. Returns are heterogeneous: Inventors get a temporary reward of 3% of annual earnings for a patent grant and for highly-cited patents a longer-lasting premium of 30% in earnings three years later. Similar medium-term premia accrue to inventors who initially hold the patent rights, although they forego earnings at the time of the grant.

Keywords: citations, effort, incentives, inventors, intellectual property, patents, performance pay, return, wages

JEL Classification: O31, J31

March 2010

Full text in pdf format:

309.pdf

Unique Equilibrium in Two-Part Tariff Competition between Two-Sided Platforms

Abstract:

Two-sided market models in which platforms compete via two-part tariffs, i.e. a subscription and a per-transaction fee, are often plagued by a continuum of equilibria. This paper augments existing models by allowing for heterogeneous rading behavior of agents on both sides. We show that this simple method yields a unique equilibrium even in the limit as the heterogeneity vanishes. In case of competitive bottlenecks we find that in this equilibrium platforms benefit from the possibility to price discriminate if per-transaction costs are relatively large. This is the case because two-part tariffs allow platforms to better distribute these costs among the two sides. Under two-sided single-homing price discrimination hurts platforms if per-transaction fees can be negative.

Keywords: Two-Sided Markets, Per-Transaction Fee, Subscription Fee, Two-Part
Tariffs, Unique Equilibrium

JEL Classification: D43, L13

February 2010

Full text in pdf format:

308.pdf

Innovation Contests with Entry Auction

Abstract:

We consider procurement of an innovation from heterogeneous sellers. Innovations are random but depend on unobservable effort and private information. We compare two procurement mechanisms where potential sellers first bid in an auction for admission to an innovation contest. After the contest, an innovation is procured employing either a fixed prize or a first-price auction. We characterize Bayesian Nash equilibria such that both mechanisms are payoff-equivalent and induce the same efforts and innovations. In these equilibria, signaling in the entry auction does not occur since contestants play a simple strategy that does not depend on rivals' private information.

Keywords: Contest, Auction, Innovation, Research, R\&D, Procurement, Signaling

JEL Classification: D21, D44, D82, H57, O31, O32

February 2010

Full text in pdf format:

307.pdf

Technology Adoption, Social Learning, and Economic Policy

Abstract:

We study a two-player dynamic investment model with information externalities and provide necessary and sufficient conditions for a unique switching equilibrium. When the public information is sufficiently high and a social planer therefore expects an investment boom, investments should be taxed. Conversely, any positive investment tax is suboptimally high if the public information is sufficiently unfavorable.We also show that an investment tax may increase overall investment activity.

Keywords: Information Externality, Strategic Waiting, Delay, Information Cascade, Investment Boom, Optimal Taxation

JEL Classification: D62, D83

February 2010

Full text in pdf format:

306.pdf

Incentive Effects in Asymmetric Tournaments Empirical Evidence from the German Hockey League

Abstract:

Following tournament theory, incentives will be rather low if the contestants of  a tournament are heterogeneous. We empirically test this prediction using a  large dataset from the German Hockey League. Our results show that indeed the intensity of a game is lower if the teams are more heterogeneous. This effect can be observed for the game as a whole as well as for the ?rst and last third. When dividing the teams in the dataset into favorites and underdogs, we only observe a reduction of effort provision from favorite teams. As the number of games per team changes between different seasons, we can also investigate the effect of a changing spread between winner and loser prize. In line with theory, teams reduce effort if the spread declines. Interestingly, effort is also sensitive to the total number of teams in the league even if the price spread remains unchanged.

Keywords: Tournaments, Heterogeneity, Incentives,Effort

JEL Classification: J33

January 2010

Full text in pdf format:

305.pdf

Creditor Rights and Debt Allocation within Multinationals

Abstract:

We analyze the optimal debt structure of multinational corporations choosing between centralized or decentralized borrowing. We identify how this choice is affected by creditor rights and bankruptcy costs, taking into account managerial incentives and coinsurance considerations. We find that partially centralized borrowing structures are optimal with either weak or strong creditor rights. For intermediate levels of creditor rights fully decentralized (centralized) borrowing structures are optimal if managers have strong (weak) empire building dencies. Decentralized borrowing is more attractive for companies focussing on short-term profitability. Credits are rather taken in countries with better creditor rights and more efficient insolvency systems.

Keywords: Multinational corporations, capital structure, creditor rights, coinsurance, internal capital markets

JEL Classification: G32, F23

November 2009

Full text in pdf format:

304.pdf

Optimal Procurement Contracts with Pre–Project Planning

Abstract:

The paper studies procurement contracts with pre–project investigations in the presence of adverse selection and moral hazard. To model the procurer’s  roblem, we extend a standard sequential screening model to endogenous information acquisition with moral hazard. The optimal contract displays systematic distortions in information acquisition. Due to a rent effect, adverse selection induces too much information acquisition to prevent cost overruns and too little information acquisition to prevent false project cancelations. Moral hazard mitigates the distortions related to cost overruns yet exacerbates those related to false negatives. The optimal mechanism is a menu of option contracts that achieves the dual goal of providing incentives for information acquisition and truthful information revelation.

Keywords: Information acquisition, procurement, dynamic mechanism design
JEL Classification: D82, H57

January 2010

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303.pdf

Can intentions spoil the kindness of a gift? - An experimental study

Abstract:

Consider a situation where person A undertakes acostly action that benefits person B. This behavior seems altruistic. However, if A expects a reward in return from B, then A's action may be motivated by expected rewards rather than by pure altruism. The question we address in this experimental study is how B reacts to A's intentions. We vary the probability that the second mover in a trust game can reciprocate and analyze effects on second mover behavior. Our results suggest that expected rewards do not spoil the perceived kindness of an action and the action's rewards.

Keywords: social preferences, intentions, beliefs, psychological game theory, experiment

JEL Classification:C91, D03, D64

October 2009

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302.pdf

Market Share Dynamics in a Model with Search and Word-of-Mouth Communication

Abstract:

This paper analyzes price competition in an infinitely repeated duopoly game. In each period, consumers remember the existence and location of their previous supplier. New information is gathered via search or word-of-mouth communication. Market outcomes are history-dependent, and the Markov perfection refinement is used to narrow the set of equilibria. Firms are shown to use mixed pricing strategies in equilibrium. The resulting price dispersion generates non-trivial market share dynamics. The goal of the paper is to characterize these dynamics, and to reveal the driving forces behind them.

Keywords: repeat purchasing, search, customer loyalty, lock-in, mixed pricing

JEL Classification:D43, D83, L11

Full text in pdf format:

301.pdf

Carbon leakage: Grandfathering as an incentive device to avert relocation

Abstract:

Emission allowances are often distributed for free in an early phase of a cap-and-trade scheme (grandfathering) to reduce adverse effects on the profitability of firms. If the grandfathering scheme is phased out over time, firms may nevertheless relocate to countries with a lower carbon price once the competitive disadvantage of their home industry becomes sufficiently high. We show that this is not necessarily the case. A temporary grandfathering policy can be a sufficient instrument to avert relocation in the long run, even if immediate relocation would be profitable in the absence of grandfathering. A necessary condition for this is that the permit price triggers investments in low-carbon technologies or abatement capital.

Keywords: climate policy, emissions trading, grandfathering, leakage, cap-and-trade

JEL Classification: Q55, Q58, L51

Full text in pdf format:

300.pdf

Group Lending versus Individual Lending in Microfinance

Abstract:

Microfinance is typically associated with joint liability of group members. However, a large part of microfinance institutions rather offers individual instead of group loans. We analyze the incentive mechanisms in both individual and group contracts. Moreover, we show that microfinance institutions offer group loans when the loan size is rather large, refinancing costs are high, and competition between microfinance institutions is low. Otherwise, individual loans are offered. Interestingly, our analysis predicts that individual lending in microfinance will gain in importance in the future if microfinance institutions continue to get better access to capital markets and if competition further rises.

Keywords: microfinance, group loans, individual loans

JEL Classification: G21, L13, O16

August 2009

Full text in pdf format:

299.pdf

Social Preferences and Competition

Abstract:

There is a general presumption that social preferences can be ignored if markets are competitive. Market experiments (Smith 1962) and recent theoretical results (Dufwenberg et al. 2008) suggest that competition forces people to behave as if they were purely self-interested. We qualify this view. Social preferences are irrelevant if and only if two conditions are met: separability of preferences and completeness of contracts. These conditions are often plausible, but they fail to hold when uncertainty is important (financial markets) or when incomplete contracts are traded (labor markets). Social preferences can explain many of the anomalies frequently observed on these markets.

Keywords: Social preferences, competition, separability, incomplete contracts, asset markets, labor markets

JEL Classification: C9, D5, J0

December 2009

Full text in pdf format:

298.pdf

Screening, Competition, and Job Design Economic Origins of Good Jobs

Abstract:

In recent decades, many firms offered more discretion to their employees, often increasing the productivity of effort but also leaving more opportunities for shirking. These “high-performance work systems” are difficult to understand in terms of standard moral hazard models. We show experimentally that complementarities between high effort discretion, rent-sharing, screening opportunities, and competition are important driving forces behind these new forms of work organization. We document in particular the endogenous emergence of two fundamentally istinct types of employment strategies. Employers either implement a control strategy, which consists of low effort discretion and little or no rent-sharing, or they implement a trust strategy, which stipulates high effort discretion and substantial rent-sharing. If employers cannot screen employees, the control strategy prevails, while the possibility of screening renders the trust strategy profitable. The introduction of competition substantially fosters the trust strategy, reduces market segmentation, and leads to large welfare gains for both employers and employees.

Keywords: job design, high-performance work systems, screening, reputation, competition, trust, control, social preferences, complementarities

JEL Classification:C91, D86

January 2009

Full text in pdf format:

297.pdf

Strategic Vertical Separation

Abstract:

The paper explores incentives for strategic vertical separation of firms in a framework of a simple duopoly model. Each firm chooses either to be a retailer of its own good (vertical integration) or to sell its good through an independent exclusive retailer (vertical separation). In the latter case a two-part tariff is applied. Retailers compete in quantities, goods are perfect substitutes and firms' cost functions are quadratic. I show that the equilibrium outcome crucially depends on the degree of (dis)economies of scale and asymmetry of costs. Two asymmetric equilibria arise, in which one firm separates while another integrates, under conditions that both firms' cost functions exhibit a sufficiently high diseconomies of scale, or extreme asymmetry of costs. Under a moderate asymmetry of costs a unique equilibrium exists in which the firm with the lower degree of diseconomies of scale separates, while its rival integrates. With the degree of diseconomies of scale low for both firms in the unique equilibrium both firms separate.

Keywords: Vertical oligopoly; Vertical Separation; Vertical Integration, Delegation

JEL Classification: L22; L42

September 2009

Full text in pdf format:

296.pdf

The High/Low Divide: Self- Selection by Values in Auction Choice

Abstract:

Most prior theoretical and experimental work involving auction choice has assumed bidders only find out their value after making a choice of which autcion to enter. In this paper we examine whether or not subjects knowing their value prior to making an auction choice impacts their choice decision and/or the outcome of the auctions. The results show a strong impact. Subjects with low values choose the first price sealed bid auction more often while subjects with high values choose the ascending auction more often. The average numbers of bidders in both formats ended up being on average the same, but due to the self-selection bias the ascending auction raised as much revenue on average as the first sealed bid auction. The two formats also generate efficiency levels that are roughly equivalent though the earnings of bidders are higher in the ascending auction.

Keywords: bidder preferences, private values, sealed bid auctions, ascending auctions, endogenous entry

JEL Classification: C91, D44

January 2010

Full text in pdf format:

295.pdf

Buy-It-Now prices in eBay Auctions - The Field in the Lab

Abstract:

Electronic commerce has grown extraordinarily over the years, with online auctions being extremely successful forms of trade. Those auctions come in a variety of different formats, such as the Buy-It-Now auction format on eBay, that allows sellers to post prices at which buyers can purchase a good prior to
the auction. Even though, buyer behavior is well studied in Buy-It-Now auctions, as to this point little is known about how sellers set Buy-It-Now prices. We investigate into this question by analyzing seller behavior in Buy-It-Now auctions. More precisely, we combine the use of a real online auction market (the eBay platform and eBay traders) with the techniques of lab experiments. We find a striking link between the information about agents provided by the eBay market institution and their behavior. Information about buyers is correlated with their deviation from true value bidding. Sellers respond strategically to this information when deciding on their Buy-It-Now prices. Thus, our results highlight potential economic consequences of information publicly available in (online) market institutions.

Keywords: electronic markets, experience, online auctions, BIN price, buyout
price, single item auction, private value, experiment

JEL Classification: C72, C91, D44, D82

January 2010

Full text in pdf format:

294.pdf

Signaling in Auctions among Competitors

Abstract:

We consider a model of oligopolistic firms that have private information about their cost structure. Prior to competing in the market a competitive advantage, i.e., a cost reducing technology, is allocated to a subset of the firms by means of a multi-object auction. After the auction either all bids or only the prices to be paid are revealed to all firms. This provides an opportunity for signaling. Whether there exists an equilibrium in which bids perfectly identify the bidders’ costs generally depends on the type and fierceness of the market competition, the specific auction format, and the bid announcement policy.

Keywords: Auction; Oligopoly; Signaling

JEL Classification: D44, L13, D43, D82, C72

January 2010

Full text in pdf format:

293.pdf

Licensing a common value innovation when signaling strength may backfire

Abstract:

This paper reconsiders the licensing of a common value innovation to a downstream duopoly, assuming a dual licensing scheme that combines a first-price license auction with royalty contracts for losers. Prior to bidding firms observe imperfect signals of the expected cost reduction; after the auction the winning bid is made public. Bidders may signal strength to their rivals through aggressive bidding, which may however backfire and mislead the innovator to set an excessively high royalty rate. We provide sufficient conditions for existence of monotone bidding strategies and for the profitability of combining auctions and royalty contracts for losers.

Keywords: Patents, licensing, auctions, royalty, innovation, R&D, mechanism design.
JEL Classification: D21, D43, D44, D45.

January 2010

Full text in pdf format:

292.pdf

Auctioning Process Innovations when Losers’ Bids Determine Royalty Rates

Abstract:

We consider a licensing mechanism for process innovations that combines a license auction with royalty contracts to those who lose the auction. Firms’ bids are dual signals of their cost reductions: the winning bid signals the own cost reduction to rival oligopolists, whereas the losing bid influences the beliefs of the innovator who uses that information to set the royalty rate. We derive conditions for existence of a separating equilibrium, explain why a sufficiently high reserve price is essential for such an equilibrium, and show that the innovator generally benefits from the proposed mechanism.

Keywords: Patents, licensing, auctions, royalty, innovation, R&D, mechanism design.
JEL Classification: D21, D43, D44, D45.

December 2009

Full text in pdf format:

291.pdf

On and Off Contract Remedies

Abstract:

A party dissatisfied with the contractual performance of a counterparty is typically able to pursue a variety of legal recourses. Within this apparent variety lurk two fundamental alternatives. The aggrieved party may (i) “affirm” the contract and seek money damages or specific performance; or (ii) “disaffirm” the contract with the remedy of rescission and restitution. This simple dichotomy of contract remedies applies broadly in both common law and civil law practice. We show here that this remedial regime allows parties to write simple contracts that induce first-best cooperative investments.

Keywords: breach remedies, incomplete contracts, cooperative investments.
JEL Classification: K12, L22, J41, C70.

December 2009

Full text in pdf format:

290.pdf

Insolvency and Biased Standards - The Case for Proportional Liability

Abstract:

We analyze liability rules in a setting where injurers are potentially insolvent and where negligence standards may deviate from the socially optimal level. We show that proportional liability, which sets the measure of damages equal to the harm multiplied by the probability that it was caused by an injurer’s negligence, is preferable to other existing negligence-based rules. Moreover, proportional liability outperforms strict liability if the standard of due care is not set too low. Our analysis also suggests that courts should rely on statistical evidence and bar individualized causal claims that link the harm suffered by a plaintiff to the actions of the defendant. Finally, we provide a result which might be useful to regulators when calculating minimum capital requirements or minimum mandatory insurance for different industries.

 
Keywords: judgment proof problem, uncertain causation, court error and misperception, proportional liability, disgorgement

JEL Classification: K13

December 2009

Full text in pdf format:

289.pdf

Fairness: A Critique to the Utilitarian Approach

Abstract:

We address a basic diffculty with incorporating fairness into standard utilitarian
choice theories. Standard utilitarian theories evaluate lotteries according to the (weighted) utility over final outcomes and assume in particular that a lottery is never preferred over getting the most preferred underlying outcome with ertainty. While nearly universally adopted in economics (including behavioral economics) and appealing for choices among consumption goods, this approach is problematic when choices directly affect the payoffs of other individuals. A difficulty is that randomization may in itself be valued as a desirable procedure for allocating scarce resources. We highlight this in two simple choice settings. Individuals can choose between three options: to get more money; to get less money and someo ther good; to flip a coin between these two alternatives. When the good is a regular consumption good like a coffeemug, hardly any of our subjects randomize. When the good is a social good that yields payoffs directly to some other individual,nearly a third of our subjects choose to randomize. Our results indicate that fairness concerns are conducive to behavioral anomalies that the standard utilitarian model cannot accommodate.

Keywords: risky choice, betweenness axiom, social preferences, preference for randomness

JEL Classification: D81, C91, D63

November 2009

Full text in pdf format:

288.pdf

Wages and Productivity Growth in a Dynamic Oligopoly

Abstract:

This paper studies the innovation dynamics of an oligopolistic industry. The firms compete not only in the output market but also by engaging in productivity enhancing innovations to reduce labor costs. Rent sharing may generate productivity dependent wage differentials. Productivity growth creates intertemporal spill-over effects, which affect the incentives for innovation at subsequent dates. Over time the industry equilibrium approaches a steady state. The paper characterizes the evolution of the industry's innovation behavior and its market structure on the adjustment path.

Keywords: innovation, laborproductivity, oligopoly, wagedifferentials, productivitygrowth, industrydynamics

JEL Classification: D24, D42, D92, J31

November 2009

Full text in pdf format:

287.pdf

Competitive Careers as a Way to Mediocracy

Abstract:

We show that incompetitive careers based on individual performance the least productive individuals may have the highest probabilities to be promoted to top positions. These individuals have the lowest fall-back positions and, hence, the highest incentives to succeed in career contests. This detrimental incentive effect exists irrespective of whether effort and talent are substitutes or complements in the underlying contest-success function. However, in case of complements the incentive effect may be be outweighed by a productivity effect that favors high    effort choices by the more talented individuals.

Key Words: career competition; contest; mediocracy
JEL Classification: D72; J44; J45; M51

November 2009

Full text in pdf format:

286.pdf

Deterrence in Competition Law

Abstract:

This paper provides a comprehensive discussion of the deterrence properties of a competition policy regime. On the basis of  the economic theory of law enforcement we identify several factors that are likely to affect its degree of deterrence: 1) sanctions and damages; 2) financial and human resources; 3) powers during the investigation; 4) quality of the law; 5) independence; and 6) separation of power. We then discuss how to measure deterrence. We review the literature that use surveys to solicit direct information on changes in the behavior of firms due to the threats posed by the enforcement of antitrust rules, and the literature based on the analysis of hard data. We finally argue that the most  challenging task, both theoretically and empirically, is how to distinguish between “good” deterrence and “bad” deterrence.
 

Keywords: Competition Policy, Law Enforcement, Deterrence

JEL Classification: K21, K42, L4

October 2009

Full text in pdf format:

285.pdf

Measuring the deterrence properties of competition policy: the Competition Policy Indexes

Abstract:

The aim of this paper is to describe in detail a set of newly developed indicators of the quality of competition policy, Competition Policy Indexes, or CPIs. The CPIs measure the deterrence properties of a competition policy in a jurisdiction, where for competition policy we mean the antitrust legislation, including the merger control provisions, and its enforcement. The CPIs incorporate data on how the key features of a competition policy regime score against a benchmark of generally-agreed best practices and summarise them so as to allow cross-country and cross-time comparisons. The  CPIs have been calculated for a sample of 13 OECD jurisdictions over the period 1995-2005.

Keywords: Competition Policy, Indicator, Deterrence, Competition Law

JEL Classification: K21, K42, L40

October 2009

Full text in pdf format:

284.pdf

Competition Policy and Productivity Growth: An Empirical Assessment

Abstract:

This paper empirically investigates the effectiveness of competition policy by estimating its impact on Total Factor Productivity (TFP) growth for 22 industries in 12 OECD countries over the period 1995-2005. We find a robust positive and significant effect of competition policy asmeasured by newly created indexes. We provide several arguments and results based on instrumental variables estimators as well as non-linearities to support the claim that the established link can be interpreted in a causal way. At a disaggregated level, the effect on TFP growth is particularly strong for specific aspects of competition policy related to its institutional setup and antitrust activities (rather than merger control). The effect is strengthened by good legal systems, suggesting complementarities between competition policy and the efficiency of law enforcement institutions.

Keywords: Competition Policy, Productivity Growth, Institutions, Deterrence, OECD

JEL Classification: L4, K21, O4, C23

October 2009

Full text in pdf format:

283.pdf

Breach Remedies Including Hybrid Investments

Abstract:

We show that parties in bilateral trade can rely on the default common law breach remedy of  ‘expectation damages’ to induce simultaneously first-best relationship-specific investments of both the selfish and the cooperative kind. This can be achieved by writing a contract that specifies a suffciently high quality level. In contrast, the result by Che and Chung (1999) that ‘reliance damages’ induce the firstbest in a setting of purely cooperative investments, does not generalize to the hybrid case. We also show that if the quality specified in the contract is too low, ‘expectation damages’ do not necessarily induce the ex-post effcient trade decision in the presence of cooperative investments.

Keywords: breach remedies, incomplete contracts, hybrid investments, cooperative investments, selfish investments

JEL Classification: K12, L22, J41, C70

October 2009

Full text in pdf format:

282.pdf

Signaling an Outside Option

Abstract:

We consider the case of an upstream seller who works to
improve an asset that has been specialized to a downstream buyer's needs. The buyer then makes a take it or leave it offer to the seller about how the future surplus should be split. We assume that the seller from the outset has private information about the fraction of the surplus that he can realize on his own, and show that this leads to higher investment compared to the complete information case. This positive effect on investment is countervailed by the occurrence of inefficient separations, which result when the buyer mistakenly tries to call the seller's bluff with a low offer.

Keywords: signaling, relationship-specific investment, incomplete contracts, outside options

JEL Classification:D23, D82

October 2009

Full text in pdf format:

281.pdf

On the Use of Information in Repeated Insurance Markets

Abstract:

We analyze the use of information in a repeated oligopolistic insurance market. To sustain collusion, insurance companies might refrain from changing their pricing schedules even if new information about risks becomes available. We therefore provide an explanation for the existence of "unused observables" that is information which

a) insurance companies collect or could collect,

b) is correlated with the risk experience, but

c) is not used by companies to set prices.

Furthermore, the existence of bulk discounts becomes rationalizable. These results also obtain if we include communication among companies and market entry to our framework.

Keywords: repeated games, insurance markets, oligopoly, unused observables

JEL Classification:C72, G22, L13

October 2009

Full text in pdf format:

280.pdf

Product Durability in Markets with Consumer Lock-in

Abstract:

This paper examines a two-period duopoly where consumers are locked-in by switching costs that they face in the second period. The paper's main focus is on the question of how the consumer lock-in affects the firms' choice of product durability. We show that firms may face a prisoners' dilemma situation in that they simultaneously choose non-durable products although they would have higher profits by producing durables. From a social welfare perspective, firms may even choose an inefficiently high level of product durability.

Keywords: Consumer Lock-in, Product Durability, Duopoly

JEL Classification: L13, D21

October 2009

Full text in pdf format:

279.pdf

Competitive Effects of Vertical Integration with Downstream Oligopsony and Oligopoly

Abstract:

We analyze the competitive effects of backward vertical integration by a partially vertically integrated firm that competes with non-integrated firms both upstream and downstream. We show that vertical integration is procompetitive under fairly general conditions. It can be anticompetitive only if the ex ante degree of integration is relatively large. Interestingly, vertical integration is more likely to be anticompetitive if the industry is less concentrated. These results are in line with recent empirical evidence. In addition, we show that even when vertical integration is procompetitive, it is not necessarily welfare enhancing.

Keywords: Vertical Integration, Downstream Oligopsony, Downstream Oligopoly, Competition Policy, Capacity Choice

JEL Classification: D43, L41, L42

October 2009

Full text in pdf format:

278.pdf

An Experimental study on the information structure in teams

Abstract:

Is free-riding in teams reduced when one member receives a signal on his colleagueís performance? And how does free-riding depend on the signal's type? We address these questions in experimental teams in which two agents sequentially exert effort to contribute to the team output. We vary the type of information the second mover receives prior to his effort choice and find that agents work more when signals are available. Overall, behavior differs from predictions of standard theory. Signals that are predicted to have no effect are, in fact, influential and signals that are predicted to have an effect are redundant.

Keywords: Team production, Free-riding, Experiment, Information, Signal

JEL Classification: C92, J30, M50, D82

September 2009

Full text in pdf format:

277.pdf

Licensing Complementary Patents: “Patent Trolls”, Market Structure, and “Excessive” Royalties

Abstract:

The infamous Blackberry case brought new attention to so-called “patent trolls” and began the general association of trolls with “non-practicing” patent holders. This has had important legal consequences: Namely, patent holders have been denied injunctive relief because they did not practice the patents themselves. In this paper we analyze how patent holders –– both non-practicing and vertically integrated –– choose their royalties depending on the structure of the upstream and downstream markets and the types of licensing agreements available. We show that a vertically integrated firm has an incentive to raise its rivals’ costs and to restrict entry on the downstream market; incentives that do not hold for non-integrated patent holders. An automatic presumption that a non-integrated patent holder will charge higher royalties than a vertically integrated company is therefore unfounded. Whether a company charges “excessive” royalties depends on whether there is scope for hold-up, either because of sunk investments on the part of potential licensees or because of “weak” patents held by the licensor. These factors are orthogonal to whether patent holders are practicing or not

September 2009

Full text in pdf format:

275.pdf

Complementary Patents and Market Structure

Abstract:

Many high technology goods are based on standards that require several essential patents owned by different IP holders. This gives rise to a complements and a double mark-up problem. We compare the welfare effects of two different business strategies dealing with these problems. Vertical integration of an IP holder and a downstream producer solves the double mark-up problem between these firms. Nevertheless, it may raise royalty rates and reduce output as compared to non-integration. Horizontal integration of IP holders solves the complements problem but not the double mark-up problem. Vertical integration discourages entry and reduces innovation incentives, while horizontal integration always benefits from entry and innovation

Keywords: IP rights, complementary patents, standards, licensing, patent pool, vertical integration

JEL Classification:  L1, L4.

September 2009

Full text in pdf format:

274.pdf

Financial Constraints and Foreign Direct Investment: Firm-Level Evidence

Abstract:

Recent literature on multinational firms has stressed the importance of low productivity as a barrier to the cross-border expansion of firms. But firms may also need external finance to shoulder the costs of entering foreign markets. We develop a model of multinational firms facing real and financial barriers to foreign direct investment (FDI), and we analyze their impact on the FDI decision (the extensive margin) and foreign affiliate sales (the intensive margin). We provide empirical evidence based on a detailed dataset of German multinationals which contains information on parent-level and affiliate-level financial constraints as well as on the location the foreign affiliates. We find that financial factors constrain firms’ foreign investment decisions, an effect  felt in particular by large firms. Financial constraints at the parent level matter for the extensive, but less  so for the intensive margin. For the intensive margin, financial constraints at the affiliate level are relatively more important.

Keywords: multinational firms, heterogeneity, productivity, financial constraints
JEL Classification: F2, G2

September 2009

Full text in pdf format:

272.pdf

Monopoly Distortions in Durability and Multi-Dimensional Quality

Abstract:

I show that Swan’s (1970) independence result requires a multiplicative interaction between durability and all other quality attributes. Because there is no compelling argument for a multiplicativity in quality, monopolists tend to distort durability, even with constant marginal costs. Distortions in durability and other quality aspects are aligned exactly when the marginal cost of quality do not increase too much with durability.

Keywords: Durability, quality, monopoly
JEL Classification: L15

September 2009

Full text in pdf format:

271.pdf

Screening and Merger Activity

Abstract:

In our paper targets, by setting a reserve price, screen acquirers on their (expected) ability to generate merger-specific synergies. Both empirical evidence and many common merger models suggest that the difference between high- and low-synergy mergers becomes smaller during booms. This implies that the target’s opportunity cost for sorting out relatively less fitting acquirers increases and, hence, targets screen less tightly during booms, which leads to a hike in merger activity. Our screening mechanism not only predicts that merger activity is intense during economic booms and subdued during recessions but is also consistent with other stylized facts about takeovers and generates novel testable predictions.

Keywords: Takeovers, Merger Waves, Defense Tactics, Screening

JEL Classification: D21, D80, L11.

August 2009

Full text in pdf format:

270.pdf

The Effects of Entrepreneurship Education

Abstract:

Entrepreneurship education ranks highly on policy agendas in Europe and the US, but little research is available to assess its impacts. In this context it is of primary importance to understand whether entrepreneurship education raises intentions to be entrepreneurial generally or whether it helps students determine how well suited they are for entrepreneurship. We develop a theoretical model of Bayesian learning in which entrepreneurship education generates signals which help students to evaluate their own aptitude for entrepreneurial tasks. We derive predictions from the model and test them using data from a compulsory entrepreneurship course at a German university. Using survey responses from 189 students ex ante and ex post, we find that entrepreneurial propensity declined somewhat in spite of generally good evaluations of the class. Our tests of Bayesian updating provide support for the notion that students receive valuable signals and learn about their own type in the entrepreneurship course.

Keywords: entrepreneurship, entrepreneurship education, Bayes’ Rule, learning, signals

JEL Classification: D83, J24, L26, M13

August 2009

Full text in pdf format:

269.pdf

Nationalizations and effciency

Abstract:

We develop a theoretical model in which firms are either private or state-owned. When firms become insolvent, the government can intervene with general measures, like subsidies, or by nationalizing firms. The government only intervenes when the bankruptcy of a firm entails social costs. In a stylized model, we analyze how government interventions affect allocative and productive efficiency. Nationalization of private firms in case unprofitable investments were made, leads to increased allocative efficiency despite private ownership. The effort level chosen by the managers working for firms is also affected by government intervention with an impact on productive efficiency.

Keywords: nationalization, efficiency

JEL Classification: L33, P31, P51

July 2009

Full text in pdf format:

268.pdf

How does entry regulation influence entry into selfemployment and occupational mobility?

Abstract:

We analyze how an entry regulation that imposes a mandatory educational standard affects entry into self-employment and occupational mobility. We exploit the German reunification as a natural experiment and identify regulatory effects by comparing differences between regulated occupations and unregulated occupations in East Germany with the corresponding differences in West Germany after reunification. Consistent with our expectations, we find that entry regulation reduces entry into selfemployment and occupational mobility after reunification more in regulated occupations in East Germany than in West Germany. Our findings are relevant for transition or emerging economies as well as for mature market economies requiring large structural changes after unforeseen economic shocks.

Keywords: Entry Regulation, Self-Employment, Occupational Mobility

JEL Classification: J24, J62, K20, L11, L51, M13

July 2009

Full text in pdf format:

267.pdf

Sabotage in dynamic tournaments

Abstract:

This paper studies sabotage in a dynamic tournament. Three players compete in two rounds. In the final round, a player who is leading in the race, but not yet beyond the reach of his competitors, gets sabotaged more heavily. As a consequence, if players are at the same position initially, they do not work productively or sabotage at all in the first round. Thus sabotage is not only directly destructive, but also depresses incentives to work productively. If players are heterogeneous ex ante, sabotage activities in the first round may be concentrated against an underdog, contrary to findings from static tournaments. We also discuss the robustness of our results in a less stylized environment.

Keywords: dynamic tournaments, contests, sabotage, heterogeneity

June 2009

Full text in pdf format:

266.pdf

On the legitimacy of coercion for the nancing of public goods

Abstract:

The literature on public goods has shown that efficient outcomes are impossible if participation constraints have to be respected. This paper addresses the question whether they should be imposed. It asks under what conditions efficiency considerations justify that individuals are forced to pay for public goods that they do not value. It is shown that participation constraints are desirable if public goods are provided by a malevolent Leviathan. By contrast, with a Pigouvian planner, efficiency can be achieved. Finally, the paper studies the delegation of public goods provision to a profit-maximizing firm. This also makes participation constraints desirable.

Keywords: Public goods, Mechanism Design, Incomplete Contracts, Regulation

JEL Classification: D02, D82, H41, L51

May 2009

Full text in pdf format:

265.pdf

Minimum Wages and Excessive Effort Supply

Abstract:

It is well-known that, in static models, minimum wages generate positive worker rents and, consequently, inefficiently low effort. We show that this result does not necessarily extend to a dynamic context. The reason is that, in repeated employment relationships, firms may exploit workers’ future rents to induce excessively high effort.

Keywords: bonuses; limited liability; minimum wages

JEL Classification: D82; D86; J33

June 2009

Full text in pdf format:

264.pdf

Investments and the Holdup Problem in a Matching Market

Abstract:

This paper studies investment incentives in the steady state of a dynamic bilateral matching market. Because of search frictions, both parties in a match are partially locked–in when they bargain over the joint surplus from their sunk investments. The associated holdup problem depends on market conditions and is more important for the long side of the market. In the case of investments in homogenous capital only the agents on the short side acquire ownership of capital. There is always underinvestment on both sides of the market. But when market frictions become negligible, the equilibrium investment levels tend towards the first–best.

Keywords: Holdup Problem, Matching Market, Investments

JEL Classification: C78, D23, D92

June 2009

Full text in pdf format:

263.pdf

Prizes and Lemons: Procurement of Innovation under Imperfect Commitment

Abstract:

The literature on R&D contests implicitly assumes that contestants submit their innovation regardless of its value. This ignores a potential adverse selection problem. The present paper analyzes the procurement of innovations when the procurer cannot commit to never bargain with innovators who bypass the contest. We compare fixed-prize tournaments with and without entry fees, and optimal scoring auctions with and without minimum score requirement. Our main result is that the optimal fixed-prize tournament is more profitable than the optimal auction since preventing bypass is more costly in the optimal auction.

Keywords: innovation, contests, tournaments, auctions, bargaining, adverse
selection

JEL Classification: C70, D44, D89, L12, O32

June 2009

Full text in pdf format:

262_01.pdf

Signal-Jamming in a Sequential Auction

Abstract:

In a recurring auction early bids may reveal bidders’ types, which in turn affects bidding in later auctions. Bidders take this into account and may bid in a way that conceals their private information until the last auction is played. The present paper analyzes the equilibrium of a sequence of first-price auctions assuming bidders have stable private values. We show that signal-jamming occurs and explore the dynamics of equilibrium prices.

Keywords: Auctions, Signaling, Price Competition

JEL Classification: D44, D02, D43

June 2009

Full text in pdf format:

261_01.pdf

Strategic Experimentation with Poisson Bandits

Abstract:

We study a game of strategic experimentation with two-armed bandits where the risky arm distributes lump-sum payoffs according to a Poisson process. Its intensity is either high or low, and unknown to the players. We consider Markov perfect equilibria with beliefs as the state variable. As the belief process is piecewise deterministic, payoff functions solve differential-difference equations.  here is no equilibrium where all players use cut-off strategies, and all equilibria exhibit an ‘encouragement effect’ relative to the single-agent optimum. We construct asymmetric equilibria in which players have symmetric continuation values at sufficiently optimistic beliefs yet take turns playing the risky arm before all experimentation stops. Owing to the encouragement effect, these equilibria Pareto dominate the unique symmetric one for sufficiently frequent turns. Rewarding the last experimenter with a higher continuation value increases the range of beliefs where players experiment, but may reduce average payoffs at more optimistic beliefs. Some equilibria exhibit an ‘anticipation effect’: as beliefs become more pessimistic, the continuation value of a single experimenter increases over some range because a lower belief means a shorter wait until another player takes over.

Keywords: Strategic Experimentation, Two-Armed Bandit, Poisson Process, Bayesian Learning, Piecewise Deterministic Process, Markov Perfect Equilibrium, Differential-Difference Equation

JEL Classification: C73, D83, O32

May 2009

Full text in pdf format:

260.pdf

Renegotiation-Proof Relational Contracts with Side Payments

Abstract:

We study infinitely repeated two player games with perfect information, where each period consists of two stages: one in which the parties simultaneously choose an action and one in which they can transfer money to each other. We first derive simple conditions that allow a constructive characterization of all Pareto-optimal subgame perfect payoffs for all discount factors. Afterwards, we examine different concepts of renegotiation-proofness and extend the characterization to renegotiation-proof payoffs.

Keywords: renegotiation, infinitely repeated games, side payments, optimal penal codes

JEL Classification: C73, L14

April 2009

Full text in pdf format:

259.pdf

Optional linear input prices in vertical relations

Abstract:

This paper examines how the option of a regulated linear input price affects vertical contracting, where a monopolistic upstream supplier sequentially offers supply contracts to two symmetric downstream firms. We find that equilibrium contracts vary with production cost and regulated price level: If the regulated price is not too high, the option allows for price discrimination, but prevents foreclosure in the intermediary market. Indeed, if both cost and optional price are rather low, non-discriminatory input prices below cost may arise. Optional input prices are socially more desirable than a flat ban on price discrimination, as consumers benefit from more intense downstream competition.

Keywords: price discrimination, vertical contracting, exclusion, regulatory outside option

JEL Classification: D42, L11, L42

April 2009

Full text in pdf format:

258.pdf

Platform Standards, Collusion and Quality Incentives

Abstract:

This paper examines how quality incentives are related to the interoperability of competing platforms. Platforms choose whether to operate standardised or exclusively, prior to quality and subsequent price competition. We find that platforms choose a common standard if they can
coordinate their quality provision. The actual investment then depends on the cost of quality provision: If rather high, platforms refrain from investment; if rather low, platforms maintain vertically differentiated platforms. The latter case is socially more desirable than exclusivity where platforms do not invest. Nevertheless, quality competition of standardised platforms induces the highest investment and maximum welfare.

Keywords: two-sided markets, standards, investment in transaction quality

JEL Classification: D43, D62, L13

January 2009

Full text in pdf format:

257.pdf

On Inequity Aversion - A Reply to Binmore and Shaked

Abstract:

In this paper we reply to Binmore and Shaked’s criticism of the Fehr-Schmidt model of inequity aversion. We put the theory and their arguments into perspective and show that their criticism is not substantiated. Finally, we briefly comment on the main challenges for future research on social preferences. 

Keywords: Experiments, other-regarding preferences, inequity aversion, 
JEL Classification: B41, C90

Febuary 2009

Full text in pdf format:

256.pdf

Indirect Taxation in Vertical Oligopoly

Abstract:

This paper analyzes the effects of specific and ad valorem taxation in an industry with downstream and upstream oligopoly. We find that in the short run, i.e. when the number of firms in both markets is exogenous, the results concerning tax incidence tend to be qualitatively similar to models where the upstream market is perfectly competitive. However, both over- and undershifting are more pronounced, potentially to a very large extent. Instead, in the long run under endogenous entry and exit overshifting of both taxes is more likely to occur and is more pronounced under upstream oligopoly. As a result of this, a tax increase is more likely to be welfare reducing. We also demonstrate that downstream and upstream taxation are equivalent in the short run while this is not true for the ad valorem tax in the long run. We show that it is normally more efficient to tax downstream.

Keywords: Specific Tax, Ad Valorem Tax, Value-Added Tax, Tax Incidence, Tax Efficiency, Indirect Taxation, Imperfect Competition, Vertical Oligopoly

JEL Classification: D43, H21, H22, L13

Febuary 2009

Full text in pdf format:

255.pdf

Subsidies, Knapsack Auctions and Dantzig’s Greedy Heuristic

Abstract:

A budget-constrained buyer wants to purchase items from a shortlisted set. Items are differentiated by quality and sellers have private reserve prices for their items. Sellers quote prices strategically, inducing a knapsack game. The buyer’s problem is to select a subset of maximal quality. We propose a buying mechanism which can be viewed as a game theoretic extension of Dantzig’s greedy heuristic for the classic knapsack problem. We use Monte Carlo simulations to analyse the performance of our mechanism. Finally, we discuss how the mechanism can be applied to award R&D subsidies.

Keywords: Auctions, Subsidies, Market Design, Knapsack Problem

JEL Classification: D21, D43, D44, D45

Febuary 2009

Full text in pdf format:

254.pdf

To Be Financed or Not... - The Role of Patents for Venture Capital Financing

Abstract:

This paper investigates how patent applications and grants held by new ventures improve their ability to attract venture capital (VC) financing. We argue that investors are faced with considerable uncertainty and therefore rely on patents as signals when trying to assess the prospects of potential portfolio companies. For a sample of VC-seeking German and British biotechnology companies we have identified all patents filed at the European Patent Office (EPO). Applying hazard rate analysis, we find that in the presence of patent applications, VC financing occurs earlier. Our results also show that VCs pay attention to patent quality, financing those ventures faster which later turn out to have high-quality patents. Patent oppositions increase the likelihood of receiving VC, but ultimate grant decisions do not spur VC financing, presumably because they are anticipated. Our empirical results and interviews with VCs suggest that the process of patenting generates signals which help to overcome the liabilities of newness faced by new ventures.

Keywords: patents, venture capital, intellectual property rights, R&D, biotechnology
JEL Classification: O30, O34, L20, L26, G24

January 2009

Full text in pdf format:

253.pdf

The Role of Experiments for the Development of Economic Theories

Abstract:

Economic experiments interact with economic theories in various ways. First of all they are used to test economic theories. However, they can neither confirm nor falsify them in a strict sense. They rather inform us about the range of applicability, the robustness and the predictive power of a theory. Furthermore, economic experiments discover and isolate phenomena and challenge economic theorists to explain them. Finally, many economic experiments are “material” models. They are used to analyse and predict how changes in the environment affect economic outcomes. However, they cannot offer an explanation for what we observe. This has to be provided by economic theory.

Keywords: Economic experiments, economic theories, falsification, confirmation, phenomena, models
JEL Classification: B41, C90

January 2009

Full text in pdf format:

252.pdf

Exit Options in Incomplete Contracts with Asymmetric Information

Abstract:

This paper analyzes bilateral contracting in an environment with contractual incompleteness and asymmetric information. One party (the seller) makes an unverifiable quality choice and the other party (the buyer) has private information about its valuation. A simple exit option contract, which allows the buyer to refuse trade, achieves the first–best in the benchmark cases where either quality is verifiable or the buyer’s valuation is public information. But, when unverifiable and asymmetric information are combined, exit options induce inefficient pooling and lead to a particularly simplecontract. Inefficient pooling is unavoidable also under the most general form of contracts, which make trade conditional on the exchange of messages between the parties. Indeed, simple exit option contracts are optimal if random mechanisms are ruled out.

Keywords: Incomplete Contracts, Asymmetric Information, Exit Options
JEL Classification: D82, D86, L15

Novmber 2008

Full text in pdf format:

251.pdf

The optimal prize structure of symmetric Tullock contests

Abstract:

We show that the optimal prize structure of symmetric n-player Tullock tournaments assigns the entire prize pool to the winner, provided that a symmetric pure strategy equilibrium exists. If such an equilibrium fails to exist under the winner-take-all structure, we construct the optimal prize structure which improves existence conditions by dampening efforts. If no such optimal equilibrium exists, no symmetric pure strategy equilibrium induces positive efforts.

Keywords: Tournaments, Incentive structures, Rent seeking
JEL Classification: C7, D72, J31

November 2008

Full text in pdf format:

250.pdf

Complementary Patents and Market Structure

Abstract:

Many high technology goods are based on standards that require access to several patents that are owned by different IP holders. We investigate the royalties chosen by IP holders under different market structures. Vertical integration of an IP holder and a downstream producer solves the double mark-up problem between these firms. Nevertheless, it may raise royalty rates and reduce output as compared to non-integration. Horizontal integration of IP holders (or a patent pool) solves the complements problem but not the double mark-up problem. Vertical integration discourages entry and reduces innovation incentives, while horizontal integration always encourages entry and innovation.

Keywords: IP rights, complementary patents, standards, licensing, patent pool, vertical integration.
JEL Classification: L15, O31, L24, O32, K11.

September 2008

Full text in pdf format:

249.pdf

Integrating with Their Feet: Cross-Border Lending at the German-Austrian Border

Abstract:

The current economic policy discussion on financial integration in the European Union concentrates on cross-border mergers. We study the impact of cross-border lending in a theoretical model where banks acquire either hard or soft information on borrowing firms and predict that the closer firms are to the border the more likely banks are to offer them cross-border loans. This hypothesis is confirmed in the ifo Business Climate Survey that reports the perceptions of German firms on banks lending behavior between 2003 and 2006. In contrast to the policy of harmonization, differences in bank regulations may provide incentives for cross-border lending. Thus, we show that financial integration may take place from the bottom up.

Keywords: Financial Integration, SMEs, Banking Supervision, Business Surveys, Threshold Analysis
JEL Classification: TG18, G21, C25
August 2008

Full text in pdf format:

248.pdf

Breach Remedies, Performance Excuses, and Investment Incentives

Abstract:

Contract law is usually perceived as a strict liability system. When a promisor fails to perform he is held liable even if he is without fault. If, however, an unusual contingency has arisen he may be excused from performing provided that he has taken reasonable precautions. For a setting with uncertain costs of and benefits from performance, it is shown that a fixed price contract is sufficient to generate efficient reliance and precautions incentives under the following legal regime. If the promisor has met the appropriate precaution standard then he is excused if performance fails to be profitable. Alternative regimes, in contrast, where he is excused if performance is inefficient or even is extremely costly distort investment incentives quite generally.

Keywords: performance excuse, impracticability doctrine, overreliance, efficient precaution
JEL Classification: K12
September 2008

Full text in pdf format:

247.pdf

Collusion and Durability

Abstract:

We develop a model to show that cartels that produce goods with lower durability are easier to sustain implicitly. This observation gen- erates the following results: 1) implicit cartels have an incentive to pro- duce goods with an inefficiently low level of durability; 2) a monopoly or explicit cartel is welfare superior to an implicit cartel; 3) welfare is non-monotonic in the number of firms; 4) a regulator may demand inefficiently high levels of durability to prevent collusion.

Keywords: cartels, collusion, durability
JEL Classification: L15
September 2008

Full text in pdf format:

246.pdf

Relative Performance Pay, Bonuses, and Job-Promotion Tournaments

Abstract:

Several empirical studies have challenged tournament theory by pointing out that (1) there is considerable pay variation within hierarchy levels, (2) promotion premiums only in part explain hierarchical wage differences and (3) external recruitment is observable on nearly any hierarchy level. We explain these empirical puzzles by combining job-promotion tournaments with higher-level bonus payments in a two-tier hierarchy. Moreover, we show that under certain conditions the firm implements first-best effort on tier 2 although workers earn strictly positive rents. The reason is that the firm can use second-tier rents for creating incentives on tier 1. If workers are heterogeneous, the firm strictly improves the selection quality of a job-promotion tournament by employing a hybrid incentive scheme that includes bonus payments.

Keywords: bonuses, external recruitment, job promotion, limited liability, tournaments
JEL Classification: D82, D86, J33
September 2008

Full text in pdf format:

245_01.pdf

Bank Competition - When is it Good?

Abstract:

The effects of bank competition and institutions on credit markets are usually studied separately although both factors are interdependent. We study the effect of bank competition on the choice of contracts (screening versus collateralized credit contract) and explicitly capture the impact of the institutional environment. Most importantly, we show that the effects of bank competition on collateralization, access to finance, and social welfare depend on the institutional environment. We predict that firms' access to credit increases in bank competition if institutions are weak but bank competition does not matter if they are well-developed.

Keywords: Bank competition, collateralization, screening, incentives
JEL Classification: D82, G21, K00
July 2008

Full text in pdf format:

244.pdf

Negatively Correlated Bandits

Abstract:

We analyze a two-player game of strategic experimentation with two-armed bandits. Each player has to decide in continuous time whether to use a safe arm with a known payoff or a risky arm whose likelihood of delivering payoffs is initially unknown. The quality of the risky arms is perfectly negatively correlated between players. In marked contrast to the case where both risky arms are of the same type, we find that learn- ing will be complete in any Markov perfect equilibrium if the stakes exceed a certain threshold, and that all equilibria are in cutoff strategies. For low stakes, the equilib- rium is unique, symmetric, and coincides with the planner's solution. For high stakes, the equilibrium is unique, symmetric, and tantamount to myopic behavior. For inter- mediate stakes, there is a continuum of equilibria.

Keywords: Strategic Experimentation, Two-Armed Bandit, Exponential Distribution, Poisson Process, Bayesian Learning, Markov Perfect Equilibrium
JEL Classification: C73, D83, O32
August 2008

Full text in pdf format:

243.pdf

Standard Breach Remedies, Quality Thresholds, and Cooperative Investments

Abstract:

When investments are non-verifiable, inducing cooperative investments with simple contracts may not be as difficult as previously thought. Indeed, modeling 'expectation damages' close to legal practice, we show that the default remedy of contract law induces the first best. Yet, in order to lower informational requirements of courts, parties may opt for a 'specific performance' regime which grants the breached-against buyer an option to choose 'restitution' if the tender's value falls below some (exogenously given) quality threshold. In order to implement this regime, no more information needs to be verifiable than is implicitly assumed in Che and Hausch (1999).

Keywords: breach remedies, imcomplete contracts, cooperative investments
JEL Classification: K12, L22, J41, C70
July 2008

Full text in pdf format:

242.pdf

Centralized and decentralized provision of public goods

Abstract:

We model the trade-off between centralized and decentralized decision making over the provision of local public goods. Centralized decisions are made in a legislature of locally elected representatives, and this creates a conflict of interest between citizens in different jurisdictions. The legislature can be self-interested or benevolent and this can result in either efficient, excessive or misallocative provision of public goods. Decisions are inuenced by spillover effects and differences in jurisdictionalsize. Furthermore, we look at the incentives for centralization.

Keywords: decentralization, local public goods
JEL Classification: H40, H70, P51
July 2008

Full text in pdf format:

241.pdf

On the Stability of Research Joint Ventures: Implications for Collusion

Abstract:

Though there is a body of theoretical literature on research joint ventures (RJV) participation facilitating collusion, empirical tests are rare. Even more so, there are few empirical tests on the general theme of collusion. This note tries to fill this gap by assuming a correspondence between the stability of research joint ventures and collusion. By using data from the US Nation Cooperation Research Act, we show that large RJVs in concentrated industries are more stable and hence more suspect to collusion.

Keywords: research joint ventures, product market collusion, empirical test
JEL Classification: L24, L44, L52
March 2008

Full text in pdf format:

240.pdf

The impact of horizontal mergers on rivals: Gains to being left outside a merger

Abstract:

It is commonly perceived that firms do not want to be outsiders to a merger between competitor firms. We instead argue that it is beneficial to be a non-merging rival firm to a large horizontal merger. Using a sample of mergers with expert-identification of relevant rivals and the event-study methodology, we find rivals generally experience positive abnormal returns at the merger announcement date. Further, we find that the stock reaction of rivals to merger events is not sensitive to merger waves; hence, 'future acquisition probability' does not drive the positive abnormal returns of rivals. We then build a conceptual framework that encompasses the impact of merger events on both merging and rival firms in order to provide a schematic to elicit more information on merger type.

Keywords: rivals, mergers, acquisitions, event-study
JEL Classification: G14, G34, L22, M20
June 2008

Full text in pdf format:

239.pdf

In Search of Workers' Real Effort Reciprocity - A Field and a Laboratory Experiment

Abstract:

updated version of paper no 55

We present a field experiment to assess the effect of own and peer wage variations on actual work effort of employees with hourly wages. Work effort neither reacts to an increase of the own wage, nor to a positive or negative peer comparison. This result seems at odds with numerous laboratory experiments that show a clear own wage sensitivity on effort. In an additional real-effort laboratory experiment we show that explicit cost and surplus information that enables to exactly calculate employer’s surplus from the work contract is a crucial pre-requisite for a positive wage-effort relation. This demonstrates that employee’s reciprocity requires a clear assessment of the surplus at stake.

Keywords: efficiency wage, reciprocity, fairness, field experiment, real effort
JEL Classification: C91, C92, J41
June 2008

Full text in pdf format:

238.pdf

Optimal Contracts for Lenient Supervisors

Abstract:

We consider a situation where an agent's effort is monitored by a supervisor who cares for the agent's well being. This is modeled by incorporating the agent's utility into the utility function of the supervisor. The first best solution can be implemented even if the supervisor's preferences are unknown. The corresponding optimal contract is similar to what we observe in practice: The supervisor's wage is constant and independent of his report. It induces one type of supervisor to report the agent's performance truthfully, while all others report favorably independent of performance. This implies that overstated performance (leniency bias) may be the outcome of optimal contracts under informational asymmetries.

Keywords: Subjective performance evaluation, leniency, supervisor, private infrmation
JEL Classification: D82, D86, J33, M52
June 2008

Full text in pdf format:

237.pdf

How to Determine whether Regional Markets are Integrated? Theory and Evidence from European Electricity Markets

Abstract:

Prices may di er between regional markets if transport capacities are limited. We develop a new approach to determine to which extent such di erences stem from limited participation in cross-border trader rather than from bottlenecks. We derive a theoretical integration benchmark for the typical case where transportation markets clear before the product markets, using Grossman's (1976) notion of a rational expectations equilibrium. We compare the benchmark to data from European electricity markets. The data reject the integration hypothesis: Capacity prices contain too little information about spot price di erential; this indicates that well informed traders do not engage in cross-border trade.

Keywords: Market integration, electricity markets, interconnector,competition policy, rational expectations equilibrium
JEL Classification: G14, D84, L94
April 2008

Full text in pdf format:

236.pdf

Legal Damages for Losses of Chances

Abstract:

This paper deals with legal damages if losses of chances are at stake. In response to disparate ad hoc rules that have emerged from legal practice in Europe, the present paper proposes a unifying principle to handle such cases. Quite generally, the purpose of a damages award is to compensate the claimant and should be based on the difference in value between due performance and actual performance. To cope with limited observability, it is suggested to still award the difference though on average over the observed event. The paper calculates damages in line with this general principle. The proposed damage scheme is shown to fully compensate the victim and to provide efficient incentives for precaution, be it that multiple injurers act non-cooperatively or in concert, even if losses of chances are at stake.

Keywords: estimating legal damages, liability for torts, liability for breach of contracts, uncertain causation,difference hypothesis
JEL classification: K12, K13, D62
February 2008

Full text in pdf format:

235.pdf

Optimal Tournament Contracts for Heterogeneous Workers

Abstract:

We analyze the optimal design of rank-order tournaments with heterogeneous workers. Iftournament prizes do not differ between the workers(uniform prizes), as in the previous tournament literature, the outcome will be ineffcient. In the case of limited liability, the employer may benefit from implementing more than first-best effort. We show that the employer can use individual prizes that satisfy a self-commitment condition and induce effcient incentives at the same time, thus solving a fundamental dilemma in tournament theory. Individual prizes exhibit two major advantages - they allow the extraction of worker rents and the adjustment of individual incentives, which will be important for the employer if he cannot rely on handicaps.

Keywords: heterogenous workers, limited liability,rank-order tournaments, self commitment
JEL Classification: J33,M12, M52
May 2008

Full text in pdf format:

234.pdf

Risk Taking in Winner-Take-All Competition

Abstract:

We analyze a two-stage game between two heterogeneous players. At stage one, common risk is chosen by one of the players. At stage two, both players observe the given level of risk and simultaneously invest in a winner-take-all competition. The game is solved theoretically and then tested by using laboratory experiments. We find three effects that determine risk taking at stage one - an effort effect, a likelihood effect and a reversed likelihood effect. For the likelihood effect, risk taking and investments are clearly in line with theory. Pairwise comparison shows that the effort effect seems to be more relevant than the reversed likelihood effect when taking risk.

Keywords: Tournaments, Competition, Risk-Taking, Experiment
JEL Classification: M51, C91, D23
March 2008

Full text in pdf format:

233.pdf

Limited Liability and the Risk-Incentive Relationship

Abstract:

Several empirical ?ndings have challenged the traditional view on the trade-off between risk and incentives. By combining risk aversion and limited liability in a standard principal-agent model the empirical puzzle on the positive relationship between risk and incentives can be explained. Increasing risk leads to a less informative performance signal. Under limited liability, the principal may optimally react by increasing the weight on the signal and, hence, choosing higher-powered incentives.

Keywords: moral hazard, limited liability, risk-incentive relationship
JEL Classification: D82, D86
March 2008

Full text in pdf format:

232.pdf

Expectation Damages, Divisible Contracts, and Bilateral Investment

Abstract:

This paper examines the efficiency of expectation damages as a breach remedy in a bilateral trade setting with renegotiation and relationship-specific investment by the buyer and the seller. As demonstrated by Edlin and Reichelstein (1996), no contract that specifies only a fixed quantity and a fixed per-unit price can induce efficient investment if marginal cost is constant and deterministic. We show that this result does not extend to more general payoff functions. If both parties face the risk of breaching, the first best becomes attainable with a simple price-quantity contract.

Keywords: breach remedies, renegotiation, hold-up
JEL classification: K12, D86, L14
March 2008

Full text in pdf format:

231.pdf

Is the veil of ignorance only a concept about risk? An experiment

Abstract:

We implement the Rawlsian veil of ignorance in the laboratory. Our experimental design allows separating the effects of risk and social preferences behind the veil of ignorance. Subjects prefer more equal distributions behind than in front of the veil of ignorance, but only a minority acts according to maximin preferences. Men prefer more equal allocations mostly for insurance purposes, women also due to social preferences for equality. Our results contrast the Utilitarian's claim that behind the veil of ignorance maximin preferences necessarily imply infinite risk aversion. They are compatible with any degree of risk aversion as long as social preferences for equality are sufficiently strong.

Keywords: law and economics, incentives, crowding out, experiment
JEL Classification: D63, D64, C99
February 2008

Full text in pdf format:

230.pdf

An experimental test of the deterrence hypothesis

Abstract:

Crime has to be punished, but does punishment reduce crime? We conduct a neutrally framed laboratory experiment to test the deterrence hypothesis, namely that crime is weakly decreasing in deterrent incentives, i.e. severity and probability of punishment. In our experiment, subjects can steal from another participant's payoff. Deterrent incentives vary across and within sessions. The across subject analysis clearly rejects the deterrence hypothesis: except for very high levels of incentives, subjects steal more the stronger the incentives. We observe two types of subjects: selfish subjects who act according to the deterrence hypothesis and fair-minded subjects for whom deterrent incentives backfire.

Keywords: deterrence, law and economics, incentives, crowding out, experiment
JEL Classification: K42, C91, D63
February 2008

Full text in pdf format:

229.pdf

A Model of Vertical Oligopolistic Competition

Abstract:

This paper develops a model of successive oligopolies with endogenous market entry, allowing for varying degrees of product differentiation and entry costs in both markets. Our analysis shows that the downstream conditions dominate the overall profitability of the two-tier structure while the upstream conditions mainly affect the distribution of profits. We compare the welfare effects of upstream versus downstream deregulation policies and show that the impact of deregulation may be overvalued when ignoring feedback effects from the other market. Furthermore, we analyze how different forms of vertical restraints influence the endogenous market structure and show when they are welfare enhancing.

Keywords: Deregulation, Free Entry, Price Competition, Product Differentiation, Successive Oligopolies, Two-Part Tariffs, Vertical Restraints
JEL Classification: L13, D43, L40, L50
February 2008

Full text in pdf format:

228.pdf

Corporate Hierarchies and the Size of Nations: Theory and Evidence

Abstract:

Corporate organization varies within a country and across countries with country size. The paper starts by establishing some facts about corporate organization based on unique data of 660 Austrian and German corporations. The larger country (Germany) has larger firms with flatter and more decentralized corporate hierarchies compared to the smaller country (Austria). Firms in the larger country change their organization less fast than firms in the smaller country. Over time firms have been introducing less hierarchical organizations by delegating power to lower levels of the corporation. We develop a theory which explains these facts and which links these features to the trade environment that countries and firms face. We introduce firms with internal hierarchies in a Krugman (1980) cum Melitz and Ottaviano (2007) model of trade. We show that international trade and the toughness of competition in international markets induce a power struggle in firms which eventually leads to decentralized corporate hierarchies. We offer empirical evidence which is consistent with the models predictions.

Keywords: international trade with endogenous firm organizations, endogenous congruence in the firm, corporate organization in similar countries, empirical test of the theory of the firm
JEL Classification: F12, F14, L22, D23
February 2008

Full text in pdf format:

227.pdf

Opportunistic Termination

Abstract:

If a seller delivers a good non-conforming to contract, European and US warranty law allows consumers to choose between some money transfer and termination. Termination rights are, however, widely criticized, mainly for fear that the buyer may use non-conformity as a pretext for getting rid of a contract he no longer wants. We show that this possibility of 'opportunistic termination' might actually have positive effects. Under some circumstances, it will lead to redistribution in favour of the buyer without any loss of efficiency. Moreover, by curbing the monopoly power of the seller, a regime involving termination might increase welfare by enabling a more efficient output level in a setting with multiple buyers.

Keywords: contract law, warranties, breach remedies, termination, harmonization
JEL classification: K12, C7, L40, D30
August 2008

Full text in pdf format:

226_01.pdf

Domestic Rivalry and Export Performance: Theory and Evidence from International Airline Markets

Abstract:

The much-studied relationship between domestic rivalry and export performance consists of those supporting a national-champion rationale, and those supporting a rivalry rationale. While the empirical literature generally supports the positive effects of domestic rivalry, the national-champion rationale actually rests on firmer theoretical ground. We address this inconsistency by providing a theoretical framework that illustrates three paths via which domestic rivalry translates into enhanced international exports. Furthermore, empirical tests on the world airline industry elicit the existence of one particular path - an enhanced firm performance effect - that connects domestic rivalry with improved international exports.

JEL Classification: L52, L40, L93
February 2008

Full text in pdf format:

225.pdf

Plaintiffs exploiting Plaintiffs

Abstract:

We consider a model of a single defendant and N plaintiffs where the total cost of litigation is fixed on the part of the plaintiffs and shared among the members of a suing coalition. By settling and dropping out of the coalition, a plaintiff therefore creates a negative externality on the other plaintiffs. It was shown in Che and Spier (2007) that failure to internalize this externality can often be exploited by the defendant. However, if plaintiffs make sequential take-it-or-leave-it settlement offers, we can show that they will actually be exploited by one of their fellow plaintiffs rather than by the defendant. Moreover, if litigation is a public good as is the case in shareholder derivative suits, parties may fail to reach a settlement even having complete information. This may explain why we observe derivative suits in the US but not in Europe.

Keywords: litigation, settlement, bargaining, contracting with externalities, derivative suits, public goods
JEL classification: K41, C7, H4
January 2008

Full text in pdf format:

224.pdf

Does Interbank Borrowing Reduce Bank Risk?

Abstract:

In this paper we investigate whether banks that borrow from other banks have lower risk levels. We concentrate on a large sample of Central and Eastern European banks which allows us to explore the impact of interbank lending when exposures are long-term and interbank borrowers are small banks. The results of the empirical analysis generally confirm the hypothesis that long-term interbank exposures result in lower risk of the borrowing banks.

Keywords: interbank market, bank risk, market discipline, transition countries
JEL classification: G21, E53
November 2007

Full text in pdf format:

223.pdf

The Politician and his Banker

Abstract:

Should the European Union grant state aid through an institution like the European Investment bank? This paper evaluates the efficiency of different measures for granting state aid. We use a theoretical model with firms that differ in their creditworthiness and compare different types of subsidies with indirect subsidization through public banks. We find that, in a large parameter range, the politician prefers public banks to direct subsidies because they avoid windfall gains to entrepreneurs and they economize on screening costs. For similar reasons, they may increase social welfare relative to subsidies. One important prerequisite for this result is that public banks must not be allowed to fully compete with private banks. However, from a welfare perspective, a politician uses public banks inefficiently often.

Keywords: public bank, development bank, state aid, subsidies, governance
JEL Classification: G21, G38, H25
November 2007

Full text in pdf format:

222.pdf

The Dynamics of Research Joint Ventures: A Panel Data Analysis

Abstract:

The aim of this paper is to test the determinants of Research Joint Ventures’ (RJVs) group dynamics. We look at entry, exit and turbulence in RJVs that have been set up under the US National Cooperative Research Act, which allows for certain antitrust exemptions in order to stimulate firms to cooperate in R&D. Accounting for unobserved project characteristics and controlling for inter-RJV interactions and industry effects, the Tobit panel regressions show the importance of group and time features for an RJV’s evolution. We further identify an average RJV’s long-term equilibrium size and assess its determining factors. Ours is a first attempt to produce robust stylized facts about cooperational short- and long-term dynamics, an important but neglected dimension in research cooperations.

Keywords: research joint ventures, dynamics, panel data
JEL Classification: C23, L24, O32
October 2007

Full text in pdf format:

221.pdf

The Actual Structure of eBay’s Feedback Mechanism and Early Evidence on the Effects of Recent Changes

Abstract:

eBay’s feedback mechanism is considered crucial to establishing and maintaining trust on the world’s largest trading platform. The effects of a user’s reputation on the probability of sale and on prices are at the center of a large number of studies. More recent theoretical work considers aspects of the mechanism itself. Yet, there is confusion amongst users about its exact institutional details, which also changed substantially in the last few months. An understanding of these details, and how the mechanism is perceived by users, is crucial for any assessment of the system. We provide a thorough description of the institutional setup of eBay’s feedback mechanism, including recent changes to it. Most importantly, buyers now have the possibility to leave additional, anonymous ratings on sellers on four different criteria. We discuss the implications of these changes and provide first descriptive evidence on their impact on rating behavior.

Keywords: eBay, reputation mechanism, strategic feedback behavior, informational content, reciprocity, fear of retaliation
JEL Classification: D44, L15, L86
November 2007

Full text in pdf format:

220.pdf

Feedback in Tournaments under Commitment Problems: The-ory and Experimental Evidence

Abstract:

In this paper, we analyze a principal's optimal feedback policy in tournaments. We close a gap in the literature by assuming the principal to be unable to commit to a certain policy at the beginning of the tournament. Our analysis shows that in equilibrium the principal reveals in-termediate information regarding the agents’ previous performances if these performances are not too different. Moreover, we investigate a situation where the principal is not able to credi-bly communicate her information. Having presented our formal analysis, we test these results using data from laboratory experiments. The experimental findings provide some support for the model.

Keywords: tournament, commitment problems, feedback, experiment
JEL Classification: C 91, D 83, J 33, M 52

October 2007

Full text in pdf format:

219.pdf

Remedy for Now but Prohibit for Tomorrow: The Deterrence Effects of Merger Policy Tools

Abstract:

Antitrust policy involves not just the regulation of anti-competitive behavior, but also an important deterrence effect. Neither scholars nor policymakers have fully researched the deterrence effects of merger policy tools, as they have been unable to empirically measure these effects. We consider the ability of different antitrust actions – Prohibitions, Remedies, and Monitorings – to deter firms from engaging in mergers. We employ cross-jurisdiction/pan-time data on merger policy to empirically estimate the impact of antitrust actions on future merger frequencies. We find merger prohibitions to lead to decreased merger notifications in subsequent periods, and remedies to weakly increase future merger notifications: in other words, prohibitions involve a deterrence effect but remedies do not.

JEL Classification: L40, L49, K21
September 2007

Full text in pdf format:

218.pdf

Equal Sharing Rules in Partnerships

Abstract:

Partnerships are the prevalent organizational form in many industries. Most partnerships share profits equally among the partners. Following Kandel and Lazear (1992) it is often argued that "peer pressure" mitigates the arising free-rider problem. This line of reasoning takes the equal sharing rule as exogenously given. The purpose of our paper is to show that with inequity averse partners - a behavioral assumption akin to peer pressure - the equal sharing rule arises endogenously as an optimal solution to the incentive problem in a partnership.

Keywords: equal sharing rule, partnerships, incentives, peer pressure, inequity aversion
JEL Classification: D20, D86, J54
August 2007

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217.pdf

The Effect of Bank Competition on the Bank’s Incentive to Collateralize

Abstract:

It has been argued that competing banks make inefficiently frequent use of collateralization in situations where they are better able to evaluate a project’s risk than entrepreneurs. We study the bank’s choice between screening and collateralization in a model where banks do not have this superior screening skill. In particular, we study the effect of bank competition on this choice. We find that competing banks use collateral less often than a monopolistic bank because competition will intensify if both banks collateralize. Moreover, bank competition is welfare improving if collateralization is rather costly.

Keywords: collateralization, screening, incentives, bank competition
JEL Classification: D82, G21, K00
September 2007

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216.pdf

Which Reputations Does a Brand Owner Need? Evidence from Trade Mark Opposition

Abstract:

At least two: the reputation of their brand and a reputation for being tough on imitators of this brand. Sustaining a brand requires both investment in its reputation amongst consumers and the defence of the brand against followers that infringe upon it. I study the defence of trade marks through opposition at a trade mark office. A structural model of opposition and adjudication of trade mark disputes is presented. This is applied to trade mark opposition in Europe. Results show that brand owners can benefit from a reputation for tough opposition to trade mark applications. Such a reputation induces applicants to settle trade mark opposition cases more readily.

Keywords: trade marks, opposition, intellectual property rights, reputation
JEL Classification: K41, L00, O31, O34
July 2007

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215.pdf

Double-Sided Moral Hazard, Efficiency Wages and Litigation

Abstract:

We consider a double-sided moral hazard problem where each party can renege on the signed contract since there does not exist any verifiable performance signal. It is shown that ex-post litigation can restore incentives of the agent. Moreover, when the litigation can be settled by the parties the pure threat of using the legal system may suffice to make the principal implement first-best effort. As is shown in the paper, this .finding is rather robust. In particular, it holds for situations where the agent is protected by limited liability, where the parties have different technologies in the litigation contest, or where the agent is risk averse.

Keywords: double-sided moral hazard, efficiency wage, litigation, contest, settlement
JEL Classification: D86, J33, K41

September 2007

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214.pdf

Who is Afraid of Political Risk? Multinational Firms and their Choice of Capital Structure

Abstract:

This paper investigates how multinational firms choose their capital structure in response to political risk. We focus on two choice variables, the leverage and the ownership structure of the foreign affiliate, and we distinguish different types of political risk, like expropriation, corruption and confiscatory taxation, and In our theoretical analysis we find that as political risk increases the ownership share always decreases whereas leverage can both increase or decrease, depending on the type of political risk. Using the Microdatabase Direct Investment of the Deutsche Bundesbank, we find supportive evidence for these different effects.

Keywords: multinational Terms, political risk, capital structure, leverage, ownership structure
JEL Classification: F23, F21, G32
August 2007

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213.pdf

FDI and Domestic Investment: An Industry-Level View

Abstract:

Previous empirical work on the link between domestic and foreign investment provides mixed results which partly depend on the level of aggregation of the data. We argue that the aggregated home country implications of foreign direct investment (FDI) cannot be gauged using firm-level data. Aggregated data, in turn, miss channels through which domestic and foreign activities interact. Instead, industry-level data provide useful information on the link between domestic and foreign investment. We theoretically show that the effects of FDI on the domestic capital stock depend on the structure of industries and the relative importance of domestic and multinational firms. Our model allows distinguishing intra-sector competition from inter-sector linkage effects. We test the model using data on German FDI. Using panel cointegration methods, we find evidence for a positive long-run impact of FDI on the domestic capital stock and on the stock of inward FDI. Effects of FDI on the domestic capital stock are driven mainly by intrasector effects. For inward FDI, inter-sector linkages matter as well.

Keywords: foreign direct investment, domestic capital stock
JEL Classification: F21, F23, E22
July 2007

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212.pdf

Allocation of Authority when a Person is not a Robot

Abstract:

We formalize a conception of authority, which is commonly defined as the right of controlling a person’s actions embedded in human assets in sociology. Due to the inalienable property of human assets, the contractible formal authority is hard to verify and enforce, while real authority usually diverges from formal authority. Inefficiency tends to arise when a task is not routine or can not be done by a robot. Using a framework of incomplete contract, we show that allocation of formal authority, as an instrument to mitigate the inefficiency, is determined by features of tasks and specificity of assets, and the relationship between the resources. Monitoring is then introduced to fine tune value of delegation.

Keywords: Transaction of human assets, real authority, formal authority, delegation, monitor
JEL Classification: D23, J24, J41, L22.
July 2007

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211.pdf

Efficient Inequity–Averse Teams

Abstract:

This paper analyzes the efficiency of team production when agents exhibit other regarding preferences. It is shown that full efficiency can be sustained as an equilibrium through a budget-balancing mechanism that punishes some randomly chosen agents if output falls short of efficient level but distributes the output equally otherwise, provided that the agents are sufficiently inequity averse.

Keywords: moral hazard, team production, inequity aversion
JEL Classification: C7, D7, D63, L2
May 2007

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210.pdf

Power in the Multinational Corporation in Industry Equilibrium

Abstract:

Recent theories of the multinational corporation introduce the property rights model of the firm and examine whether to integrate our outsource firm activities locally or to a foreign country. This paper focus instead on the internal organization of the multinational corporation by examining the power allocation between headquarters and subsidiaries. We provide a framework to analyse the interaction between the decision to serve the local market by exporting or FDI, market acces and the optimal mode of organization of the multinational corporation. We find that subsidiary managers are given most autonomy in their decision how to run the firm at intermediate levels of local competition. We then provide comparative statics for changes in fixed FDI entry costs and trade costs, information technology, the number of local competitors, and in the size of the local market.

Keywords: foreign direct investment, power allocation in the firm, international trade and the organization of production
JEL Classification: D23; F1; F2
May 2007

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209.pdf

Short-term or long-term contracts? - A rent-seeking perspective

Abstract:

In this paper, .rms engage in rent seeking in order to be assigned a governmental contract. We analyze how a change in the contract length a¤ects the .rms. rent-seeking behavior. A longer contract leads to more rent seeking at a contract assignment stage, as the .rms value the contract higher. On the other hand, the contract has to be assigned less often, which of course leads to less rent seeking. Finally, a longer contract makes a possible cooperation between the .rms solving the rent-seeking problem more difficult to sustain.

Keywords: Contract length, rent seeking, cooperation, relational contract
JEL Classification: D72, D74

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208.pdf

Competing in Organizations: Firm Heterogeneity and International Trade

Abstract:

This paper develops a theory which investigates how firms’ choice of corporate organization is affecting firm performance and the nature of competition in international markets. We develop a model in which firms’ organisational choices determine heterogeneity across firms in size and productivity in the same industry. We then incorporate these organisational choices in a Krugman cum Melitz and Ottaviano model of international trade. We show that the toughness of competition in a market depends on who - headquarters or middle managers - have power in firms. Furthermore, we propose two new margins of trade adjustments: the monitoring margin and the organizational margin. International trade may or may not lead to an increase in aggregate productivity of an industry depending on which of these margins dominate. Trade may trigger firms to opt for organizations which encourage the creation of new ideas and which are less well adapt to price and cost competition.

Keywords: international trade with endogenous firm organizations and endogenous toughness of competition, firm heterogeneity, power struggle in the firm
JEL Classification: F12, F14, L22, D23
May 2007

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207.pdf

Variance analysis and linear contracts in agencies with distorted performance measures

Abstract:

This paper investigates the role of variance analysis procedures in aligning objectives under the condition of distorted performance measurement. A riskneutral agency with linear contracts is analyzed, whereby the agent receives postcontract, pre-decision information on his productivity. If the performance measure is informative with respect to the agent’s marginal product concerning the principal’s objective, variance investigation can alleviate effort misallocation. These results carry over to a participative budgeting situation, but in this case the variance investigation procedures are less demanding.

April 2007

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206.pdf

Bonus Pools, Limited Liability, and Tournaments

Abstract:

Tournaments have been objected as resulting from ad hoc restrictions to the contracting problem which are not easily justified. Taking into account that a performance measure might not be verifiable to a third party, however, a restriction to payments which sum up to a constant may be reasonable. The paper analyzes such fixed payment schemes with regard to their optimality and the relation to the special case of tournaments. It emerges that for a group of identical risk-neutral agents, the optimal fixed payment scheme is a tournament.

Keywords: bonus pools, relative performance evaluation, subjective performance evaluation, tournaments, verifiability
JEL classification: D82, M52, M54
March 2007

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205.pdf

Performance measure congruity in linear agency models with interactive tasks

Abstract:

This note demonstrates how performance measure congruity and noise determine an agency’s total surplus within an linear agency framework with multiple tasks. It provides a decomposition of agency costs, leading back to a congruity index previously proposed in the literature. In addition, it generalizes this index to a more general cost function, thereby highlighting the context specificity of the original criterion. Finally, it suggests a redefinition of tasks under which the criterion prevails.

Keywords: incentives, multi-tasking, performance measurement
JEL classification: D82, M52
November 2006

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204.pdf

Distorted performance measurement and relational contracts

Abstract:

This paper analyzes the use of alternative performance measures in an agency model in which contracting incorporates both formal and informal agreements. It is shown that under a proper use of verifiable and unverifiable performance measures, the two types of contracts are complements, regardless of the principal’s fallback position. The analysis therefore contrasts earlier results of the literature, and provides a rationale for the application of subjective performance information, as it is frequently incorporated in strategic performance measurement systems.

November 2006

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203.pdf

Abstract:

This paper analyzes a duopoly model with stochastic demand in which firms first choose their strategy variable and compete afterwards. Contrary to the existing literature, we show that firms do not always choose a quantity which is the variable that induces a smaller degree of competition. The reason is that demand uncertainty and the degree of substitutability have countervailing effects on variable choice. Higher uncertainty favors prices, while closer substitutability favors quantities. Moreover, for intermediate values firms choose different strategy variables in equilibrium.

Keywords: competition, strategy variables, demand uncertainty
JEL Classification: D43, L13
May 2007

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202.pdf

Limited Liability and the Trade-off between Risk and Incentives

Abstract:

Several empirical findings have challenged the traditional trade-off between risk and incentives. By combining risk aversion and limited liability in a standard principal-agent model the empirical puzzle on the positive relationship between risk and incentives can be explained.

Keywords: limited liability, piece rates, risk aversion, risk-incentives trade-off
JEL classification: D01, D82, J3, M5
April 2007

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201.pdf

Optimal Risk Taking in an Uneven Tournament Game with Risk Averse Players

Abstract:

We analyze the optimal choice of risk in a two-stage tournament game between two players that have different concave utility functions. At the first stage, both players simultaneously choose risk. At the second stage, both observe overall risk and simultaneously decide on effort or investment. The results show that those two effects which mainly determine risk taking — an effort effect and a likelihood effect — are strictly interrelated. This finding sharply contrasts with existing results on risk taking in tournament games with symmetric equilibrium efforts where such linkage can never arise. Hence, previous findings based on symmetry at the effort stage turn out to be nongeneric.

Keywords: asymmetric equilibria, rank-order tournaments, risk taking
JEL classification: C72, J3, L1, M5
April 2007

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200.pdf

License Auctions with Royalty Contracts for (Winners and) Losers

Abstract:

This paper revisits the licensing of a non–drastic process innovation by an outside innovator to a Cournot oligopoly. We propose a new mechanism that combines a restrictive license auction with royalty licensing. This mechanism is more profitable than standard license auctions, auctioning royalty contracts, fixed–fee licensing, pure royalty licensing, and two-part tariffs. The key features are that royalty contracts are auctioned and that losers of the auction are granted the option to sign a royalty contract. Remarkably, combining royalties for winners and losers makes the integer constraint concerning the number of licenses irrelevant.

Keywords: patents, licensing, auctions, royalty, innovation, R&D, mechanism design
JEL Classification: D21, D43, D44, D45
April 2007

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199.pdf

Two Tales on Resale

Abstract:

In some markets vertically integrated firms sell directly to final customers hut also to independent downstream firms with whom they then compete on the downstream market. It is often argued that resellers intensify competition and benefit consumers, in particular when wholesale prices are regulated. However, we show that (i) resale may increase prices and make consumers worse off and that (ii) standard "retail minus X regulation" may increase prices and harm consumers. Our analysis suggests that this is more likely if the number of integrated firms is small, the degree of product differentiation is low, and/or if competition is spatial.

Keywords: Resale regulation, wholesale, spatial product differentiation, non-spatial product differentiation, vertical restraints
JEL Classification: D43, L11, L42, L51
March 2007

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198.pdf

Adding a Stick to the Carrot? The Interaction of Bonuses and Fines

Abstract:

In this paper we report on a principal-agent experiment where the principal can choose whether to rely on an unenforcable bonus contract or to combine the bonus contract with a fine if the agent’s effort falls below a minimum standard. We show that most principals do not use the fine and that the pure bonus contract is more efficient than the combined contract. Our experiment suggests that principals who are less fair are more likely to choose a combined contract and less likely to actually pay the announced bonus. This offers a new explanation for why explicit and implicit incentives are substitutes rather than complements.

Keywords: moral hazard, bonus contract, implicit incentives, fairness, incentives
JEL Classification: C7, C9, J3
January 2007

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197.pdf

Unawareness, Beliefs and Games

Abstract:

We define a generalized state-space model with interactive unawareness and probabilistic beliefs. Such models are desirable for many potential applications of asymmetric unawareness. We develop Bayesian games with unawareness, define equilibrium, and prove existence. We show how equilibria are extended naturally from lower to higher awareness levels and restricted from higher to lower awareness levels. We use our unawareness belief structure to show that the common prior assumption is too weak to rule out speculative trade in all states. Yet, we prove a generalized “No-trade” theorem according to which there can not be common certainty of strict preference to trade. Moreover, we show a generalization of the “No-agreeing-to-disagree” theorem.

Keywords: unawareness, awareness, type-space, Bayesian games, incomplete information, equilibrium, common prior, agreement, speculative trade, interactive epistemology
JEL Classification: C70, C72, D80, D82
March 2007

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196.pdf

Garbled Elections

Abstract:

Majority rules are frequently used to decide whether or not a public good should be provided, but will typically fail to achieve an efficient provision. We provide a worst-case analysis of the majority rule with an optimally chosen majority threshold, assuming that voters have independent private valuations and are exante symmetric (provision cost shares are included in the valuations). We show that if the population is large it can happen that the optimal majority rule is essentially no better than a random provision of the public good. But the optimal majority rule is worst-case asymptotically efficient in the large-population limit if (i) the voters’ expected valuation is bounded away from 0, and (ii) an absolute bound for valuations is known.

October 2006

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195.pdf

Providing Public Goods Without Strong Sanctioning Institutions

Abstract:

This paper proposes a simple mechanism aimed to establish positive contributions to public goods in the absence of powerful institutions to sanction free-riders. The idea of the mechanism is to require players to commit to the public good by paying a deposit prior to the contribution stage. If all players commit in this way, those players who do not contribute their share to the public good forfeit their deposit. If there is no universal commitment, all deposits are refunded and the standard game is played. Given deposits are sufficiently high, prior commitment and full ex post contributions are part of a strict subgame perfect Nash equilibrium for the resulting game. As the mechanism obviates the need for any ex post prosecution of free-riders, it is particularly suited for situations where players do not submit to a common authority as in the case of international agreements.

Keywords: public goods, cooperation, institutions, Climate-Change Treaties
JEL Classification: C72, D61
February 2007

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194.pdf

Why and How Identity Should Influence Utility

Abstract:

This paper provides an argument for the advantage of a preference for identity-consistent behaviour from an evolutionary point of view. Within a stylised model of social interaction, we show that the development of cooperative social norms is greatly facilitated if the agents of the society possess a preference for identity consistent behaviour. As cooperative norms have a positive impact on aggregate outcomes, we conclude that such preferences are evolutionarily advantageous. Furthermore, we discuss how such a preference can be integrated in the modelling of utility in order to account for the distinctive cooperative trait in human behaviour and show how this squares with the evidence.

Keywords: cognitive dissonance, fairness, identity, reciprocity, social Norms, social preferences, utility
JEL Classification: A13, C70, C90, D01, Z13
January 2007

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193.pdf

The Performance of Private Equity Funds: Does Diversification Matter?

Abstract:

This paper is the first systematic analysis of the impact of diversification on the performance of private equity funds. A unique data set allows the exact evaluation of diversification across the dimensions financing stages, industries, and countries. Very different levels of diversification can be observed across sample funds. While some funds are highly specialized others are highly diversified. The empirical results show that the rate of return of private equity funds declines with diversification across financing stages, but increases with diversification across industries. Accordingly, the fraction of portfolio companies which have a negative return or return nothing at all, increase with diversification across financing stages. Diversification across countries has no systematic effect on the performance of private equity funds.

Keywords: private equity, diversification, specialization, performance, rate of return, percentage of loss
JEL classification: G11, G24, M13
June 2006

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192.pdf

Internet Peering as a Network of Relations

Abstract:

We apply results from recent theoretical work on networks of relations to analyze optimal peering strategies for asymmetric ISPs. It is shown that - from a network of relations perspective – ISPs’ asymmetry in bilateral peering agreements need not be a problem, since when these form a closed network, asymmetries are pooled and information transmission is faster. Both these effects reduce the incentives for opportunism in general, and interconnection quality degradation in particular. We also explain why bilateral monetary transfers between asymmetric ISPs (Bilateral Paid Peering), though potentially good for bilateral peering, may have rather negative effects on the sustainability of the overall peering network.

November 2006

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191.pdf

Can’t Buy Me Rights! The Contractual Structure of Asymmetrical Inter-firm Collaborations

Abstract:

The efficient allocation of control rights in inter-firm collaborations is a widely emphasized issue. In this paper, I empirically identify control rights and the allocation of these rights using a unique survey data set on collaborations between biotechnology and pharmaceutical firms. Fifteen control rights are
identified to make up the structure of deals with five rights being the items of contention in deal making (ownership of patents, production, further development of the technology, the right to manage the collaboration, and the right to market universally). I find that the assignment of control rights is related to the bargaining position of firms and incentive issues. Hence, goliaths –pharmaceutical incumbents
– subrogate critical rights to the new ventures when the final outcome of the project is depending on the venture’s effort.

Keywords: contracts, performance, inter-firm collaboration, biotechnology
JEL Classification: D23, L24, G30, M13, O32

December 2006

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189.pdf

Cluster Performance reconsidered: Structure, Linkages and Paths in the German Biotechnology Industry, 1996-2003

Abstract:

This paper addresses the evolution of biotechnology clusters in Germany between 1996 and 2003, paying particular attention to their respective composition in terms of venture capital, basic science institutions and biotechnology firms. Drawing upon the significance of co-location of "money and ideas", the literature stressing the importance of a cluster's openness and external linkages, and the path dependency debate, the paper aims to analyse how certain cluster characteristics correspond with its overall performance. After identifying different cluster types, we investigate their internal and external interconnectivity in comparative manner and draw on changes in cluster composition. Our results indicate that the structure, i.e. to which group the cluster belongs, and the openness towards external knowledge flows deliver merely unsystematic indications with regard to a cluster's overall success. Its ability to change composition towards a more balanced ratio of science and capital over time, on the other hand, turns out as a key explanatory factor. Hence, the dynamic perspective proves effective illuminating cluster growth and performance, where our explorative findings provide a promising avenue for further evolutionary research.

Keywords: Cluster evolution, dynamic perspective, basic science, venture capital, biotechnology, Germany
JEL classification: O18, O32, L22
December 2006

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188.pdf

Country size and publicly provided goods

Abstract:

This paper studies the equilibrium size of countries. Individuals in small countries have greater influence over the nature of political decision making while individuals in large countries have the advantage of more public goods and lower tax rates. The model implies that (i) there exists excessive incentives to separate, though this need not be the case for all sets of secession rules studied; (ii) an exogenous increase in public spending decreases country size; (iii) countries with a presidential-congressional democracy are larger than countries with a parliamentary democracy.

Keywords: country size, public spending, structure of government
JEL classification: D7, H1, H2, H7
December 2006

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187.pdf

Collective Production and Incentives

Abstract:

We analyse incentive problems in collective production environments where contributors are compensated according to their observed and ranked efforts. This provides incentives to the contributors to choose first best efforts.

December 2006

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186.pdf

Mergers, Litigation and Efficiency

Abstract:

We consider antitrust enforcement within the adversarial model used by the United States. We show that, under the adversarial system, the Antitrust Authority may try to prohibit mergers also in those cases in which litigation is inefficient. Even if market concentration and technological disadvantages lead to a significant welfare reduction after merger, from society’s perspective the agency’s lawsuit may be inefficient. We can show that these inefficiencies may be aggravated if the takeover is hostile.

Keywords: hostile takeover; litigation contest, merger
JEL Classification: D43, K21, L40
December 2006

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185.pdf

Jostling for Advantage: Licensing and Entry into Patent Portfolio Races

Abstract:

Licensing in a patent thicket allows firms to either avoid or resolve hold-up. Firms' R&D incentives depend on whether they license ex ante or ex post. We develop a model of a patent portfolio race, which allows for endogenous R&D efforts, to study firms' choice between ex ante and ex post licensing. The model shows that firms' relationships in product markets and technology space jointly determine the type of licensing contract chosen. In particular, product market competitors are more likely to avoid patent portfolio races, since the threat of hold-up increases. On the other hand, more valuable technologies are more likely to give rise to patent portfolio races. We also discuss the welfare implications of these results.

Keywords: hold-up problem, licensing, innovation, patent race, patent thicket, research joint ventures
JEL Classification: L13, L49, L63
September 2006