Publication Date: June 2009
Revision Date: April 2010
We study optimal contracting in a team setting with moral hazard, where teammates promise to complete socially eﬀicient but costly tasks. Teammates must monitor each other to provide incentives, but each team member has limited capacity to allocate between monitoring and productive tasks. Players incur contractual punishments for unfulﬁlled promises that are discovered. We show that optimal contracts are generally “forgiving” and players optimally make “empty promises” that they don’t necessarily intend to fulﬁll. As uncertainty in task completion increases, players optimally make more empty promises but fewer total promises. A principal who hires a team of agents optimally implements a similar contract, with proﬁt-sharing and employment-at-will. When agents diﬀer in their productivity, the model suggests a “Dilbert principle” of supervision: less productive players optimally specialize in monitoring the more productive players’ promises.
Teams, Contracting, Capacity constraints, Empty promises, Forgiveness, Bounded memory, Costly monitoring, Moral hazard, Dilbert principle
JEL Classification Codes: C72, D03, D86