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Optimal Asset Management Contracts with Hidden Savings

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  • Di Tella, Sebastian
  • Sannikov, Yuliy

    (Stanford University)

Abstract

We study the role of hidden savings in optimal contracts for delegated asset management. The principal uses the agent's access to capital to manipulate his precautionary motive and reduce the cost of providing incentives. After bad outcomes, the agent's consumption is somewhat insured, and he is punished instead with less access to capital and lower growth. As a result, in addition to an equity constraint, the optimal contract requires a leverage constraint to be implemented. Hidden investment limits the principal's ability to provide incentives, but doesn't change the contract's qualitative features. We provide a sufficient analytical condition for the validity of the first-order approach: if the agent's precautionary motive falls after bad outcomes, the contract is globally incentive compatible. This condition holds in the optimal contract and in a broader class of contracts.

Suggested Citation

  • Di Tella, Sebastian & Sannikov, Yuliy, 2016. "Optimal Asset Management Contracts with Hidden Savings," Research Papers 3429, Stanford University, Graduate School of Business.
    • Handle: RePEc:ecl:stabus:3429
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    Cited by:

    1. Zhiguo He & Bin Wei & Jianfeng Yu & Feng Gao, 2017. "Optimal Long-Term Contracting with Learning," The Review of Financial Studies, Society for Financial Studies, vol. 30(6), pages 2006-2065.
    2. Sebastian Di Tella, 2018. "A Neoclassical Theory of Liquidity Traps," 2018 Meeting Papers 96, Society for Economic Dynamics.
    3. Francesc Dilmé & Daniel F. Garrett, 2023. "Relational Contracts: Public versus Private Savings," Econometrica, Econometric Society, vol. 91(3), pages 1025-1075, May.
    4. Sebastian Di Tella & Robert E. Hall, 2020. "Risk Premium Shocks Can Create Inefficient Recessions," NBER Working Papers 26721, National Bureau of Economic Research, Inc.
    5. Patrick Bolton & Neng Wang & Jinqiang Yang, 2016. "Liquidity and Risk Management: Coordinating Investment and Compensation Policies," 2016 Meeting Papers 1703, Society for Economic Dynamics.
    6. Thomas Phelan, 2019. "Efficient wealth inequality and differential asset taxation with dynamic agency," 2019 Meeting Papers 1350, Society for Economic Dynamics.

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