(Wednesday, 20th May 2009)
Download the presentation - 1.15 MB
In conventional theories of contracting, transactors enter contracts to protect relationship-specific investments. Contract prices, meanwhile, play two roles in those theories: A distributional role, dividing surpluses so that both parties expect to benefit from the transaction; and an incentive role, providing the parties' incentives to take efficient actions (consumption, production, investment and so forth) given the information available to the parties and the courts. This conventional understanding of the functions of contracting and contract prices leaves a number of phenomena unexplained, however, including "managerial incentive compensation schemes" that have no plausible incentive effects (Oyer, 2004) and detailed long-term contracts where neither party makes significant specific investments and either party can walk away from the contract at will. After reviewing the conventional approaches to contracting and contract design, we will examine recent models that attribute a third role to contract prices — reducing post-agreement frictions — and then discuss related empirical evidence on price adjustment provisions.
Bibliographical references :
Scott E. Masten, "Contractual Choice," in B. Boukaert and G. De Geest (eds.), Encyclopedia of Law and Economics, Vol. III, The Regulation of Contracts, pp. 25-45. Cheltenham, UK: Edward Elgar Publishing. 2000. (Downloadable copy available on the web at: http://users.ugent.be/~gdegeest/4100book.pdf and http://ssrn.com/abstract=142933)
O.D. Hart, "Hold-up, Asset Ownership, and Reference Points," Quarterly Journal of Economics, February, 2009, pp. 267-300.
Scott E. Masten "Long-Term Contracts and Short-Term Commitment: Price Determination for Heterogeneous Freight Transactions" (forthcoming) - (http://ssrn.com/abstract=1010992)