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A Note on Convex Transformations and the First Order Approach

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  • Corrado Benassi

    (Dipartimento di Scienze Economiche, Alma Mater Studiorum - Università di Bologna; The Rimini Centre for Economic Analysis)

Abstract

The first order approach to solving the standard one-dimensional principal-agent model is conditional upon the relevant stochastic production function obeying two noteworthy restrictions: that the Likelihood Ratio be monotonically increasing in output, and that the distribution function be convex in effort. It is usually claimed that such conditions are very restrictive, as very few of the standard probability distributions satisfy both properties. The purpose of this note is to show that this lack of generality should not be seen as a problem, since some simple convexifying transformations are available that enable one to work with proper distributions with the required properties.

Suggested Citation

  • Corrado Benassi, 2011. "A Note on Convex Transformations and the First Order Approach," Working Paper series 06_11, Rimini Centre for Economic Analysis.
    • Handle: RePEc:rim:rimwps:06_11
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    File URL: http://www.rcea.org/RePEc/pdf/wp06_11.pdf
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    References listed on IDEAS

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    1. Marco LiCalzi & Sandrine Spaeter, 2003. "Distributions for the first-order approach to principal-agent problems," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 21(1), pages 167-173, January.
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    Cited by:

    1. Patrice Loisel, 2013. "Can CDFC and MLRP Conditions Be Both Satisfied for a Given Distribution?," Czech Economic Review, Charles University Prague, Faculty of Social Sciences, Institute of Economic Studies, vol. 7(3), pages 135-145, November.

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    More about this item

    Keywords

    Principal agent problem; first order approach;

    JEL classification:

    • D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law

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