Contract Theory

Course content

The course provides an introduction to contract theory. Contract theory examines the characteristics of optimal contracts when one party has certain relevant knowledge that the other party does not have.

 

The primary aim of the course is to introduce students to central results and insights in contract theory. An additional aim is to familiarize students with some selected examples of how contract theory can be used to study economic questions. A broader aim is that students who take the course will, by working extensively with theoretical models, acquire analytical skills that are transferable to other kinds of intellectual problems.

 

The course consists of two parts. In the first part, some of the basic ideas in contract theory are presented. We will, in particular, look at optimal contracts when one party has hidden information (adverse selection) or can take a hidden action (moral hazard). In the second part of the course we apply the insights obtained to a number of specific economic questions, studying some original journal articles.

 

In the first part we will study selected sections of chapters 2-5 of the textbook by Laffont and Martimort. Chapter 2 explains the basic idea and insights of adverse selection. Chapter 3 studies some important extensions of the basic adverse selection model: for example, environments where the agent may be of more than two “types”, which may lead to “bunching” (i.e., several types being offered the same contract). Chapter 4 explains the basic idea and insights of moral hazard, using a very stylized model with two effort levels and two possible outcomes. Chapter 5 extends this model in some interesting ways, for example: environments with a continuous effort variable, leading to a discussion of the so-called first-order approach.

 

The journal articles that we will study concern various topics, including managerial incentives and product market competition; regulation; and incentives for marketing agents to “missell”.

Education

MSc programme in Economics – elective course

 

The PhD Programme in Economics at the Department of Economics:

  • The course is an elective course with research module. PhD students must contact the study administration AND the lecturer in order to register for the research module and write the research assignment.
Learning outcome

After completing the course the student is expected to be able to:

 

Knowledge:

  • Account for certain main ideas and results in the contract theory literature.
  • Read and discuss professional journal articles that apply contract theory.

 

Skills:

  • Formulate and solve contract theory models.
  • Apply the analytical techniques taught in the course.

 

Competencies:

  • Use the broad analytical approach of contract theory when analyzing and thinking about questions and intellectual problems where incentives play a role.

 

Lectures.

Restrictions due to Coronavirus:
The teaching in this course may be changed to be taught either fully or partly online due to COVID-19. For further information, please see the course room on Absalon (for enrolled students).

Note: Details of the syllabus may change.

Textbook (selected parts)

Laffont, Jean-Jacques, and David Martimort (2002), The Theory of Incentives: The Principal-Agent Model, Princeton University Press.

Preliminary plan:

  • Sections 2.1-2.6, 2.9, and 2.10 (except 2.10.2 and 2.10.3).

  • Sections 3.1, 3.3.1 (including introduction to 3.3) and 3.7.

  • Introduction to Ch. 4 (pages 145-148), Sections 4.1-4.4 up until and including Proposition 4.5 on page 161.

  • Sections 4.8.2 (on sharecropping) and 4.8.5 (on insurance contracts).

  • Section 4.5 (pages 163-167) – however, the formal model with a risk-averse agent is excluded although the discussion on page 167 is included.

  • Section 5.1.2. Also the discussion related to the first-order approach in Sections 5.1.1 and 5.1.3 (hence not the formal models).

  • Sections 5.2.1 and 5.2.2.

 

Preliminary list of journal articles/book chapters (typically only selected pages):

  • Prendergast, Canice. “The Provision of Incentives in Firms”. Journal of Economic Literature, 37(1), 1999.

  • Vickers, John. “Concepts of competition” Oxford Economic Papers, 47(1), 1995.

  • Inderst, Roman, and Marco Ottaviani. “Misselling through Agents” American Economic Review, 99(3), 2009.

  • Laffont, Jean-Jacques, and Jean Tirole, A Theory of Incentives in Procurement and Regulation, MIT Press, 1993 (parts of Chapter 1).

  • Schmidt, Klaus M. “Managerial Incentives and Product Market Competition”. Review of Economic Studies, 64(2), 1997.

It is recommended that, prior taking the course Contract Theory, the student achieves a certain proficiency in solving game-theoretic models, at the level of Microeconomics III at the Department of Economics or a similar course.

It is also possible to follow Microeconomics III in parallel with the Contract Theory course. A large part of the Contract Theory course consists of analyzing formal microeconomic models. The students therefore should have a sound knowledge of basic microeconomics and the basic mathematical tools that microeconomists use (e.g., Kuhn-Tucker and similar optimization techniques).

Schedule:
3 hours lectures every week from week 36 to 50 (except week 42).

Schema:
The overall schema for the Master can be seen at KUnet:
MSc in Economics => "Courses and teaching" => "Planning and overview" => "Your timetable"

Timetable and venue:
To see the time and location of lectures please press the link under "Timetable"/​"Se skema" at the right side of this page (E means Autumn).

You can find the similar information partly in English at
https:/​/​skema.ku.dk/​ku2122/​uk/​module.htm
-Select Department: “2200-Økonomisk Institut” (and wait for respond)
-Select Module:: “2200-E21; [Name of course]”
-Select Report Type: “List – Weekdays”
-Select Period: “Efterår/Autumn”
Press: “ View Timetable”

Please be aware:
- It is the students´s own responsibility to continuously update themselves about their studies, their teaching, their schedule, their exams etc. through the curriculum of the study programme, the study pages at KUnet, student messages, the course description, the Digital Exam portal, Absalon, the personal schema at KUnet and myUCPH app etc.

Oral
Collective

 

The students will receive collective oral feedback from the teacher and other students through actively participating in discussions and working on the assigned problem sets.

ECTS
7,5 ECTS
Type of assessment
Written examination, 3 hours under invigilation
ITX-exam in the exam venues of the university.

The exam assignment is in English and must be answered in English.

Changes due to Coronavirus:
In the event that COVID-19 restrictions may affect the conduction of the ITX-exams, the written exam and the re-sit exam will be changed to a 4 hours take-home exam with all aids. If done so, the changes will be announced in study messages at KUnet, in the Digital Exam portal and here in the Exam section of the course description.

The take-home exams will still be individual and it is not allowed to communicate with any one about the exam assignment nor the solution at all. It is also prohibited to distribute data and other information at all. If this or alike actions happens, it will be regarded as cheating and plagiarism.
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Aid

No aids allowed at the written ITX-exams.

 

If the ITX-exams are changed to take-home exams due to COVID-19, the written take-home exams will be with all aids.

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Marking scale
7-point grading scale
Censorship form
No external censorship
for the written exam. The written ITX-exam may be chosen for external assessment by random sample.
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Criteria for exam assessment

Students are assessed on the extent to which they master the learning outcome for the course.

 

To receive the top grade, the student must with no or only a few minor weaknesses be able to demonstrate an excellent performance displaying a high level of command of all aspects of the relevant material and can make use of the knowledge, skills and competencies listed in the learning outcomes.

 

In order to pass the course, the student must demonstrate familiarity with and understanding of the approach of contract theory. Moreover, the student must show ability to solve and work with models used in contract theory and ability to understand the logic behind the results.

Single subject courses (day)

  • Category
  • Hours
  • Lectures
  • 42
  • Preparation
  • 161
  • Exam
  • 3
  • English
  • 206