A Theory of Supervision with Endogenous Transaction Costs

CEPR Working Paper No. 1967

Posted: 13 Jan 1999

See all articles by Antoine Faure-Grimaud

Antoine Faure-Grimaud

London School of Economics; Centre for Economic Policy Research (CEPR)

Multiple version iconThere are 2 versions of this paper

Date Written: September 1998

Abstract

We propose a theory of supervision with endogenous transaction costs. A principle delegates part of his authority to a supervisor who can acquire soft information about an agent's productivity. If the supervisor were risk-neutral, the principal would simply make the better informed supervisor residual claimant for the hieracrchy's profit. Under risk aversion, the optimal contract trades-off the supervisor's incentives to reveal his information with an insurance motive. This contract can be identified with the one obtained in a simple hard information model of hierarchical collusion with exogenous transaction costs. Now, transaction costs are endogenous and depend on the collusion stake, the accuracy of the supervisory technology and the supervisor's degree of risk-aversion. We then discuss various implications of the model for the design and management of organizations.

JEL Classification: D82, G14, G32, L51

Suggested Citation

Faure-Grimaud, Antoine, A Theory of Supervision with Endogenous Transaction Costs (September 1998). CEPR Working Paper No. 1967, Available at SSRN: https://ssrn.com/abstract=141311

Antoine Faure-Grimaud (Contact Author)

London School of Economics ( email )

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Centre for Economic Policy Research (CEPR)

London
United Kingdom

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