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Incentives under Upstream-Downstream Moral Hazard Contract

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  • Patrice Loisel
  • Bernard Elyakime

Abstract

This paper explores the characteristics of an upstream-downstream moral hazard contract between two private initially non-associated producers in a spatialized and flow dependence, one upstream of the other, to provide an environmental public good. The performance of the payment function is studied in detail, in order to clarify how the moral hazard contract operates. After having drawn up and calculated the contract, we derive the incentive non-linear payment functions. The results of the downstream producer depend on the result of the upstream producer. Payments producers thus inherit this dependency structure: payment for the upstream contractor only depends on his results whereas payment for the downstream contractor depends on his own results and on those of the upstream contractor. In some cases, the behavior of the downstream payment function can lead to a possible non-acceptability of the payment function by contractors. To remedy the situation we add an acceptability constraint: a new type of bunching appears for the payment of the downstream producer.

Suggested Citation

  • Patrice Loisel & Bernard Elyakime, 2019. "Incentives under Upstream-Downstream Moral Hazard Contract," Annals of Economics and Statistics, GENES, issue 133, pages 93-108.
    • Handle: RePEc:adr:anecst:y:2019:i:133:p:93-108
    DOI: 10.15609/annaeconstat2009.133.0093
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