On the Study of a Single-Period Principal-Agent Model with Taxation

This paper investigates a single-period principal-agent model with moral hazard. In the model, we implement bonus tax for the agent and analyze the effect of loss aversion by comparing with the results by Dietl et al. (2013). The existence and uniqueness of the optimal contracting problem are proved. Through an example, concrete illustrations of how loss aversion affects the compensation package are given. It is shown that although the agent’s efforts reduce, the fixed salary and marginal bonus paid by principal are increasing with the tax rate if the agent’s risk aversion and shocks in the economy are small. When the effect of loss aversion is sufficiently large, the curve of fixed salary is nonmonotonic, and the complementarity between fixed salary and marginal bonus disappears.