We study a dynamic principal-agent setting in which both sides learn about the importance of effort. The quality of the agent’s output is not observed directly. Instead, the principal jointly designs an evaluation technology and a wage schedule. More precise performance evaluation reduces current agency costs but promotes learning, which is shown to increase future agency costs. As a result, the optimal evaluation technology is both imprecise and tough: a bad performance is always sanctioned, but a good one is not always recognized. We also study the case in which principal and agent have different priors, for instance because the agent has incorrect beliefs about his abilities. If the agent is overconfident, the principal uses a tough evaluation structure to preserve the agent’s profitable misperception. For an underconfident agent, by contrast, she either uses a fully informative evaluation in order to promote learning and eliminate costly underconfidence, or is lenient if learning is too costly.
R&R The Review of Economic Studies
We analyze screening with frame-dependent valuations. A monopolist principal designs an extensive-form decision problem with frames at each stage. This allows the firm to induce dynamic inconsistency and thereby reduce information rents. We show that the optimal extensive form has a simple three-stage structure and uses only the two highest frames (high-low-high). Some types buy in the first stage, while others continue the interaction and buy at the last stage. The principal offers unchosen decoy contracts. Sophisticated consumers correctly anticipate that if they deviated, they would choose a decoy, which they want to avoid in a lower frame. This eliminates incentive compatibility constraints into types who don’t buy in the first stage. With naive consumers, the principal can perfectly screen by cognitive type and extract full surplus from naifs.
Screening for Susceptibility and Influence, with Elia Sartori
We study a monopolist screening problem with externalities and two dimensions of heterogeneity: Agents differ in their susceptibility to the externality and influence in creating it. Applications range from non-linear pricing of a network good, to taxation or subsidization of industries that produce and are subject to economic externalities. We characterize the revenue maximizing contract in each of the four possible observability assumptions on the heterogeneity dimensions. The monopolist screens only along one dimension (susceptibility) while “tilting” allocations along the other (influence) to create the externality. We show that the allocation is inefficient if and only if susceptibility is unobservable, while agents receive rents for their influence only if susceptibility is unobserved and influence is verifiable. The optimal allocation under private information satisfies "lexicographic monotonicity”; bunching arises around the switching types in the lexicographic order, i.e. highest-influence types adjacent to the next level of susceptibility. Partial restrictions on misreports, i.e. the ability to credibly reveal a lower or upper bound of the type, deliver the same solution as assuming that one dimension is observable.
Hidden Costs: Anticompetitive Eﬀects of Transparency
We identify a market characteristic central to the impact of the exploitation of consumer naïvete about hidden costs on profits, incentives to increase price transparency and the impact of transparency on consumer surplus: the difference between cross-price elasticities of demand of naïve and sophisticated consumers. Exploiting consumer naïvete increases profits and persist in the long run only if naïfs are more price sensitive than sophisticates. Targeting of transparency matters. Increased transparency is most valuable to consumers when firms have the least incentives to engage in it, can increase aggregate welfare, but typically redistributes surplus from consumers to firms.