On the welfare effects of allowing unlimited renegotiation in agency relationships

Frank Gigler, Thomas Hemmer

Research output: Contribution to journalArticlepeer-review

Abstract

We study renegotiation in an agency setting where the number of offers and accept/reject decisions parties can make is potentially unlimited. Thus any contract, either on or off the equilibrium path, may be subject to possible renegotiation. We first show that the principal will not be able to gain complete access to the agent's private information with unlimited renegotiation, unlike when the potential number of renegotiations is finite. Rather the agent either employ a randomized reporting strategy or do not to report at all. We then identify conditions under which expected allocations are most efficient with the contract that induces no agent communication. More significantly, by doing so we also identify conditions under which the parties are made strictly worse off by committing to end renegotiation after a fixed number of rounds.

Original languageEnglish (US)
Pages (from-to)243-265
Number of pages23
JournalEconomic Theory
Volume37
Issue number2
DOIs
StatePublished - Nov 1 2008

Keywords

  • Limited versus unlimited renegotiations
  • Principal-agent problem
  • Value of limiting commitment

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