This thesis consists of two essays that use dynamic contracts to study problems of coordination and private information.
In the first essay a Monetary Union is modeled as a technology that makes a surprise policy deviation impossible and requires voluntarily participating countries to follow the same monetary policy. Two new results stem from the voluntary participation assumption. First, optimal policy is shown to respond to the agents' incentives to leave the union by tilting both current and future policy in their favor. This yields a non-linear rule according to which each country's weight in policy decisions is time-varying and depends on the incentives to abandon the union. Second we show that there might conditions such that a break-up of the union, as occurred in some historical episodes, is efficient. The paper thus provides a novel formal analysis of the incentives behind the formation, sustainability, and disruption of a Monetary Union.
The second essay studies a repeated moral hazard setting in which the Principal privately observes the Agent's output. It is shown that in an optimal contract the Agent is supposed to exert effort every period, receive a constant efficiency wage and no feedback until he is fired. The optimal contract for a finite horizon is characterized, and shown to require burning of resources. These are only burnt after the worst possible realization sequence and the amount is independent of both the length of the horizon and the discount factor (δ). For the infinite horizon case a family of fixed interval review contracts is characterized and shown to achieve first best as δ[arrow right]1. The optimal contract when δ<<1 is partially characterized. Incentives are optimally provided with a combination of efficiency wages and the threat of termination, which will exhibit memory over the whole history of realizations. Finally, tournaments are shown to provide an alternative solution to the problem.
My Research
