Theoretical Economics Volume 15, Number 2 (May 2020) is now online

Theoretical Economics

Volume 15, Number 2 (May 2020)

Table of contents





Title: Network structure and naive sequential learning

Pages: 415-444

Authors: Krishna Dasaratha, Kevin He

Abstract: We study a sequential-learning model featuring a network of naive agents with Gaussian information structures. Agents apply a heuristic rule to aggregate predecessors' actions. They weigh these actions  according the strengths of their social connections to different  predecessors. We show this rule arises endogenously when agents wrongly believe others act solely on private information and thus  neglect redundancies among observations. We provide a simple linear formula expressing agents' actions in terms of network paths and use this formula to characterize the set of networks where naive agents eventually learn correctly. This characterization implies that, on all networks where later agents observe more than one neighbor, there exist disproportionately influential early agents who can cause herding on incorrect actions. Going beyond existing social-learning results, we compute the probability of such mislearning exactly. This allows us to compare likelihoods of incorrect herding, and hence expected welfare losses, across network structures. The probability of mislearning increases when link densities are higher and when networks are more integrated. In partially segregated networks, divergent early signals can lead to persistent disagreement between groups.

Keywords: Network structure, sequential social learning, naive inference, mislearning, disagreement

JEL classification: D85, D83, D90




Title: The no-upward-crossing condition, comparative statics, and the moral-hazard problem

Pages: 445-476

Authors: Hector Chade, Jeroen M. Swinkels

Abstract: We define and explore the No-Upward-Crossing NUC, a condition satisfied by every parameterized family of distributions commonly used in economic applications. Under smoothness assumptions, NUC is equivalent to log-supermodularity of the negative of the derivative of the distribution with respect to the parameter. It is characterized by a natural monotone comparative static, and is central in establishing quasi-concavity in a family of decision problems. As an application, we revisit the first-order approach to the moral hazard problem. NUC simplifies the relevant conditions for the validity of the first-order approach and gives them an economic interpretation. We provide extensive analysis of sufficient conditions for the first-order approach for exponential families.

Keywords: Log-supermodularity, quasi-concavity, moral hazard, first-order approach

JEL classification: D81, D86




Title: Delegating performance evaluation

Pages: 477-509

Authors: Igor Letina, Shuo Liu, Nick Netzer

Abstract: We study optimal incentive contracts with multiple agents when performance is evaluated by a reviewer. The reviewer may be biased in favor of the agents, but the degree of bias is unknown to the principal. We show that a contest, which is a contract in which the principal fixes a set of prizes to be allocated to the agents, is optimal. By using a contest, the principal can commit to sustaining incentives despite the reviewer's potential leniency bias. The optimal effort profile can be uniquely implemented by an all-pay auction with a cap. Our analysis has implications for various applications, such as the design of worker compensation or the allocation of research grants.

Keywords: Subjective performance evaluation, mechanism design without money, optimal delegation, optimality of contests

JEL classification: D02, D82, M52



Title: Mechanism design without quasilinearity

Pages: 511-544

Authors: Tomoya Kazumura, Debasis Mishra, Shigehiro Serizawa

Abstract: This paper studies a model of mechanism design with transfers where agents' preferences need not be quasilinear. In such a model, (1) we characterize dominant strategy incentive compatible mechanisms using a monotonicity property; (2) we establish a revenue uniqueness result: for every dominant strategy implementable allocation rule, there is a unique payment rule that can implement it; and (3) we show that every dominant strategy incentive compatible, individually rational, and revenue-maximizing mechanism must charge zero payment for the worst alternative (outside option). These results are applicable in a wide variety of problems (single object auction, multiple object auction, public good provision etc.) under suitable richness of type space. In particular, our results are applicable to two important type spaces: (a) type space containing an arbitrarily small perturbation of quasilinear type space and (b) type space containing all positive income effect preferences.

Keywords: Incentive compatibility, individual rationality, monotonicity, non-quasilinear preferences, revenue equivalence

JEL classification: D80, D44, D40



Title: Bundlers' dilemmas in financial markets with sampling investors

Pages: 545-582

Authors: Milo Bianchi, Philippe Jehiel

Abstract: We study banks' incentive to pool assets of heterogeneous quality when investors evaluate pools by extrapolating from limited sampling.

Pooling assets of heterogeneous quality induces dispersion in investors'

valuations without affecting their average. Prices are determined by market clearing assuming that investors cannot borrow nor short-sell. A monopolistic bank has the incentive to create heterogeneous bundles only when investors have enough money. When the number of banks is sufficiently large, oligopolistic banks choose extremely heterogeneous bundles, even when investors have little money and even if this turns out to be collectively detrimental to the banks. If in addition banks can originate low quality assets, even at a cost, this collective inefficiency is exacerbated and pure welfare losses arise. Robustness to the presence of rational investors and to the possibility of short-selling is discussed.

Keywords: Complex financial products, bounded rationality, disagreement, market efficiency, sampling

JEL classification: C72, D53, G14, G21



Title: Dynamic contracting with limited commitment and the ratchet effect

Pages: 583-623

Authors: Dino Gerardi, Lucas Maestri

Abstract: We study dynamic contracting with adverse selection and limited commitment. A firm (the principal) and a worker (the agent) interact for potentially infinitely many periods. The worker is privately informed about his productivity and the firm can only commit to short-term contracts. The ratchet effect is in place since the firm has the incentive to change the terms of trade and offer more demanding contracts when it learns that the worker is highly productive.

As the parties become arbitrarily patient, the equilibrium outcome takes one of two forms. If the prior probability of the worker being productive is low, the firm offers a pooling contract and no information is ever revealed.

In contrast, if this prior probability is high, the firm fires the unproductive worker at the very beginning of the relationship.

Keywords: Dynamic contracting, limited commitment, ratchet effect

JEL classification: D80, D82, D86



Title: Multiplier effect and comparative statics in global games of regime change

Pages: 625-667

Authors: Michal Szkup

Abstract: This paper provides a general analysis of comparative statics results in global games. I show that the effect of a change in any parameter of a global game model of regime change can be decomposed into a direct effect, which captures the effect of a change in parameters when agents'

beliefs are held constant, and a multiplier effect, which captures the role of adjustments in agents' beliefs. I characterize conditions under which the multiplier effect is strong and relate it to the strength of strategic complementarities and the publicity multiplier emphasized in earlier work.

Finally, I use the above insights to identify when comparative statics can be deduced from the model's primitives, when they do not depend on the information structure, and when they coincide with predictions of the complete information model.

Keywords: Global games, comparative statics, multiplier effect, strategic complementarities, publicity multiplier

JEL classification: D83, D84




Title: Equilibrium coalitional behavior

Pages: 669-714

Authors: Mert Kimya

Abstract: I develop two related solution concepts,  equilibrium coalitional behavior and credible equilibrium coalitional behavior, which capture foresight and impose the requirement that each coalition in a sequence of coalitional moves chooses optimally among all its available options. The model does not require, but may use, the apparatus of a dynamic process or a protocol that specifies the negotiation procedure underlying coalition formation. Therefore, it forms a bridge between the non-cooperative and the cooperative approaches to foresight.

Keywords: Coalition formation, farsightedness

JEL classification: C70, C71, C72, D71




Title: Optimal contracts with a risk-taking agent

Pages: 715-761

Authors: Daniel Barron, George Georgiadis, Jeroen M. Swinkels

Abstract: Consider an agent who can costlessly add mean-preserving noise to his output. To deter such risk-taking, the principal optimally offers a contract that makes the agent's utility concave in output. If the agent is risk-neutral and protected by limited liability, this concavity constraint binds and so linear contracts maximize profit. If the agent is risk averse, the concavity constraint might bind for some outputs but not others. We characterize the unique profit-maximizing contract and show how deterring risk-taking affects the insurance-incentive tradeoff. Our logic extends to costly risk-taking and to dynamic settings where the agent can shift output over time.

Keywords: Risk-taking, contract theory, gaming

JEL classification: M2, M5, D86




Title: The construction of national identities

Pages: 763-810

Authors: Milena Almagro, David Andrés-Cerezo

Abstract: This paper explores the dynamics of nation-building policies and the conditions under which a state can promote a shared national identity on its territory. A forward-looking central government that internalizes identity dynamics shapes them by choosing the level of state centralization.

Homogenization attempts are constrained by political unrest, electoral competition and the intergenerational transmission of identities within the family. We find nation-building efforts are generally characterized by fast interventions. We show that a zero-sum conflict over resources pushes long-run dynamics toward homogeneous steady states and extreme levels of (de)centralization. We also find the ability to foster a common identity is highly dependent on initial conditions, and that country-specific historical factors can have a lasting impact on the long-run distribution of identities.

Keywords: Cultural evolution, nation-building, national identity, cultural leader, optimal control, political economy, decentralization

JEL classification: B52, D71, D72, D74, H41, H77, P48, Z10, Z13




Title: Dynamic games with (almost) perfect information

Pages: 811-859

Authors: Wei He, Yeneng Sun

Abstract: This paper aims to solve two fundamental problems on finite or infinite horizon dynamic games with complete information. Under some mild conditions, we prove the existence of subgame-perfect equilibria and the upper hemicontinuity of equilibrium payoffs in general dynamic games with simultaneous moves (i.e., almost perfect information), which go beyond previous works in the sense that stagewise public randomization and the continuity requirement on the state variables are not needed. For alternating move (i.e., perfect-information) dynamic games with uncertainty, we show the existence of pure-strategy subgame-perfect equilibria as well as the upper hemicontinuity of equilibrium payoffs, extending the earlier results on perfect-information deterministic dynamic games.

Keywords: Dynamic games, perfect information, almost perfect information, subgame-perfect equilibrium, atomless transition, atomless reference measure

JEL classification: C62, C73


Publication Date: 
Friday, May 1, 2020