Keser, Claudia, and Willinger, Marc

"Principalsí Principles When Agentsí Actions Are Hidden"

JEL codes: C91, D82
Keywords: experimental economics, principal-agent theory, hidden action, incentives, measure of predictive success

Abstract:  We examine the behavior of subjects in a simple principal-agent game with hidden action. While subjects in the role of agents tend to choose actions which maximize their expected profits, subjects in the role of principals offer contracts which differ from the theoretical predictions. We identify three principles of contract design: (1) The agent's remuneration for the better outcome is at least as high as the remuneration for the worse outcome. (2) The agent must not risk making a loss. (3) The net profit of the agent should not be higher than the net profit of the principal.

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