Exam 20: Contracts and Moral Hazards

Author A accepts a $5,000 advance and a 10% royalty after 5,000 books are sold.Author B foregoes the advance and negotiates for a 15% royalty on all books sold.Author C decides to self publish his book and keep 50% of all sales revenue.In what order of risk aversion (from most to least)would you rank these authors?

A good salesperson can sell $1,000,000 worth of goods,while a poor one can sell only $100,000 worth of goods.Job applicants know if they are good or bad,but the firm does not.A firm will offer job applicants a choice between a fixed salary and 20% commission.Assuming risk-neutral salespersons and no opportunistic behavior,what level must the fixed salary be so that the firm can distinguish a prospective good salesperson from a poor one,and thereby avoid hiring a poor one?

Many professional sports athletes have incentive clauses in their contracts.These indicate that

A deferred payment scheme is more likely to be accepted by a worker if

In the presence of asymmetric information,the only contract that results in production efficiency and no moral hazard is the one in which

We can say that a contract is able to prevent moral hazard when

Including an employee representative on the board of directors reduces the possibility of opportunistic employer behavior.

When shirking at the workplace occurs,increased monitoring of workers is the only effective way to reduce this behavior.

In a store that sells souvenirs,suppose an agent receives a $1 commission for each unit sold,and the principal receives the residual profit.As a result,

Explain why a firm may hire managers to operate outlets near the firm's headquarters,but may sell franchise rights for the outlets located greater distances from the headquarters.(With a franchise,the firm sells a brand name and a method of doing business to someone who then owns and operates the outlet.)

If an agent is risk neutral and a principal is risk averse,which of the following contracts would be efficient in risk bearing?

Sam is suing someone in court for $10,000.The probability that Sam will lose the case is 1/h where h is the number of hours that Sam's attorney works on the case.The lawyer charges $500 per hour if he is to be paid hourly,or he requests 20% of the settlement if he is to be paid on a contingency basis.Assuming both Sam and the attorney are risk-neutral wealth maximizers,is either contract efficient?

Suppose a plaintiff hires a lawyer to represent her in a court case.The lawyer will receive a share of the settlement if the plaintiff wins.Under this contract,

An employee gains $500 from shirking.Thus,to deter shirking,the employer makes employees post a bond equal to $1,000,and installs monitoring devices to detect shirking.What is the probability that these devices can detect shirking?

A profit-maximizing firm that uses an efficiency wage and monitors will increase the wage it pays its workers until

In a principal-agent problem,if the contract used leads to the maximum of the principal's and agent's combined value (profits,payoffs),we can say that this contract features

Firms that seek to avoid hiring lazy workers that assert they are hardworking are trying to avoid

Why would a firm knowingly hire lazy employees?

If information is asymmetric,explain why the hire contract is not efficient in production and a moral hazard exists,but the fixed fee to the principal contract is efficient and does not pose a moral hazard problem.

Wage reduction policies are less common than layoffs because