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Randomization is optimal in the robust principal-agent problem

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  • Kambhampati, Ashwin

Abstract

A principal contracts with an agent, who takes a hidden action. The principal does not know all of the actions the agent can take and evaluates her payoff from any contract according to its worst-case performance. Carroll (2015) showed that there exists a linear contract that is optimal within the class of deterministic contracts. This paper shows that, whenever there is an optimal linear contract with non-zero slope, the principal can strictly increase her payoff by randomizing over deterministic, linear contracts. Hence, if the principal believes that randomization can alleviate her ambiguity aversion, then restricting attention to the study of deterministic contracts is with loss of generality.

Suggested Citation

  • Kambhampati, Ashwin, 2023. "Randomization is optimal in the robust principal-agent problem," Journal of Economic Theory, Elsevier, vol. 207(C).
    • Handle: RePEc:eee:jetheo:v:207:y:2023:i:c:s0022053122001752
    DOI: 10.1016/j.jet.2022.105585
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    References listed on IDEAS

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    1. Shaowei Ke & Qi Zhang, 2020. "Randomization and Ambiguity Aversion," Econometrica, Econometric Society, vol. 88(3), pages 1159-1195, May.
    2. Howard Raiffa, 1961. "Risk, Ambiguity, and the Savage Axioms: Comment," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 75(4), pages 690-694.
    3. Kota Saito, 2015. "Preferences for Flexibility and Randomization under Uncertainty," American Economic Review, American Economic Association, vol. 105(3), pages 1246-1271, March.
    4. Gabriel Carroll, 2015. "Robustness and Linear Contracts," American Economic Review, American Economic Association, vol. 105(2), pages 536-563, February.
    5. Daniel Ellsberg, 1961. "Risk, Ambiguity, and the Savage Axioms," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 75(4), pages 643-669.
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    Cited by:

    1. Rosenthal, Maxwell, 2023. "Robust incentives for risk," Journal of Mathematical Economics, Elsevier, vol. 109(C).
    2. Bo Peng & Zhihao Gavin Tang, 2024. "Optimal Robust Contract Design," Papers 2406.11528, arXiv.org.

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    More about this item

    Keywords

    Randomization; Robustness; Principal-agent models; Zero-sum games;
    All these keywords.

    JEL classification:

    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law
    • C72 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Noncooperative Games

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