Nahum Melumad

Contract Complexity, Incentives and the Value of Delegation

Coauthor(s): Dilip Mookherjee, Stefan Reichelstein.

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Abstract:
In settings where the revelation principle applies, delegation arrangements are frequently inferior to centralized decision making, and at best achieve the same level of performance. This paper studies the value of delegation when organizations are constrained by a bound on the number of contingencies in any contract. For a principal-agent setting with asymmetric information, we compare centralized mechanisms where the principal retains sole responsibility for contracting and coordinating production, with delegation mechanisms where one agent (a manager) is delegated authority to contract with other agents and coordinate production. Relative to centralization, delegation entails a control loss, but allows decisions to be more sensitive to the manager's private information. We identify circumstances under which the flexibility gain outweighs the control loss, so that delegation emerges superior to centralized contracting.

Source: Journal of Economics and Management Strategy
Exact Citation:
Melumad, Nahum, Dilip Mookherjee, and Stefan Reichelstein. "Contract Complexity, Incentives, and the Value of Delegation." Journal of Economics and Management Strategy 6, no. 2 (Summer 1997): 257-89.
Volume: 6
Number: 2
Pages: 257-89
Date: Summer 1997