Good News Only, Please: An (In-)Equivalence Result of Collusion under Hard and Soft Information

Abstract

This note shows that the optimal collusion-proof contract under soft information is equivalent to that under hard information if and only if all the collusion-proof constraints are binding in the latter environment. A necessary (but not sufficient) condition is that the supervisor improves the principal's information by bringing a 'good' news. That is, the agent is more likely to be an efficient type. An application of the analysis shows that contingent (external) auditing should target a report of bad news.

Keywords: Collusion, Hard Information, Soft Information

JEL Classification: D73, D82, D86