Mitigating Non-contractible actions by randomness

Abstract: This paper studies non-contractibility of a contract designer's actions in an agency model with costly monitoring. It shows that non-contractibility may lead to an explicit randomness, which is not optimal under full contractibility. The randomness mitigates non-contractibility. Its effectiveness increases with the ex post deducibility of the non-contractible variable. Mitigation is perfect, if the non-contractible action can be deduced perfectly from other contractible variables. Consequently, non-contractibility is less severe than some recent literature indicates.

Keywords: incomplete contracting; random signals; stochastic contracts; non-contractible monitoring (search for similar items in EconPapers)
JEL-codes: D82 L23 (search for similar items in EconPapers)
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