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Limited liability, the first-order approach, and the ranking of information systems in agencies

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  • Larmande, Francois

Abstract

Kim (1995) provides a sufficient condition to rank information systems when the first-order approach is valid. The basis for the condition is the comparison of the likelihood ratio distributions. I show, first, that Kim’s criterion is not necessary when the limited liability of the agent binds. I derive, in the binomial model, a less restrictive necessary and sufficient condition. This new criterion compares the likelihood ratios, but only for the high outcome. It also compares the marginal productivities of effort. In contrast, when the limited liability does not bind, I find that Kim’s criterion is necessary and sufficient in the binomial model. Second, when the first-order approach is not valid, I show that Kim’s criterion is no longer sufficient: the principal might be better off with a less informative (in Kim’s sense) monitoring technology.

Suggested Citation

  • Larmande, Francois, 2013. "Limited liability, the first-order approach, and the ranking of information systems in agencies," Economics Letters, Elsevier, vol. 118(2), pages 314-317.
    • Handle: RePEc:eee:ecolet:v:118:y:2013:i:2:p:314-317
    DOI: 10.1016/j.econlet.2012.11.008
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    References listed on IDEAS

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    1. Frøystein Gjesdal, 1982. "Information and Incentives: The Agency Information Problem," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 49(3), pages 373-390.
    2. Kim, Son Ku, 1995. "Efficiency of an Information System in an Agency Model," Econometrica, Econometric Society, vol. 63(1), pages 89-102, January.
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    Cited by:

    1. François Larmande & Jean-Pierre Ponssard, 2013. "Fishing for excuses and performance evaluation," Working Papers hal-00825297, HAL.

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    More about this item

    Keywords

    Moral hazard; Likelihood ratio distribution; Mean preserving spread criterion; Limited liability; First-order approach;
    All these keywords.

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • M41 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Accounting
    • M52 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Personnel Economics - - - Compensation and Compensation Methods and Their Effects

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