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Hierarchical Contracting: A Mean-Volatility Control Problem

In: Contract Theory: Discrete- and Continuous-Time Models

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  • Jaeyoung Sung

    (Ajou University)

Abstract

The contracting problem Continuous-time contracting models hierarchical contractswith a mean-volatility controlled outcome is applied to a hierarchical contracting problem where multiple tasks in the firm are organized by a cascade of contracts with many managers. The top manager is given a mandate to design middle managerial contracts which the principal cannot observe. A numerical example illustrates that both the top and middle managerial PPSs decrease with the number of middle managers or the firm size. The optimal metric for each middle managerial performance measurement consists of his own effort outcome and the net profit of the firm. Conflicts can arise between the principal and the top manager about the construction of optimal performance metrics for middle managers, because middle managerial performance metrics which are optimal to the top manager may not necessarily be optimal to the principal. Another numerical example shows that the profit-sharing features of middle managerial contracts can be desirable for a sufficiently large firm, but not for a sufficiently small firm.

Suggested Citation

  • Jaeyoung Sung, 2023. "Hierarchical Contracting: A Mean-Volatility Control Problem," Springer Books, in: Contract Theory: Discrete- and Continuous-Time Models, chapter 0, pages 175-196, Springer.
    • Handle: RePEc:spr:sprchp:978-981-99-5487-2_11
    DOI: 10.1007/978-981-99-5487-2_11
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