BPP Field Exam 2010 Answers

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Question B1: Production in Teams

Relevant papers:

• Holmstrom (1982), Moral Hazard in Teams. Not on exam's reading list.
• Holmstrom (1999), Firm as Subeconomy, Not on exam's reading list.

Question B1.1

Notes about assumptions:

• The prompt does not explicitly say that everyone must receive the same share. Nonetheless, many of the relevant papers assume that this is the case. As such, will solve the problem both ways.
• The prompt also does not explicitly require a balanced budget. However, no source of funding for the agents is mentioned besides the combined output V of the individual agents. As such, I will assume that the budget balance restriction must hold.
• The prompt also does not address whether work decisions are made cooperatively or non-cooperatively, or whether transfers or contracts are possible between employees. I will assume that no transfers or contracts between employees are possible, and that work decisions are made non-cooperatively.

Each agent's maximization problem

[math] \max_{e_{i}}[s_{i}\sum_{j\neq i}z(e_{j})+s_{i}z(e_{i})-e_{i}] [/math]

Note that if the agent chooses to work, his utility is [math]s_{i}\sum_{j\neq i}z(e_{j})+s_{i}z-1[/math]

If he chooses to shirk his utility is [math]s_{i}\sum_{j\neq i}z(e_{j})[/math].

Therefore, he'll work if [math]s_{i}z-1\gt 0 \iff s_{i}z\gt 1 \iff s_{i}\gt \frac{1}{z}[/math].

Note that not everyone can have [math]s_{i}\gt \frac{1}{z}[/math] because [math]\frac{N}{z}\gt 1[/math].

(a) My answer, assuming that all shares must be equal.

If all shares must be equal, no contract scheme can get any of the workers to work. This is because a worker will only work if [math]s_{i}\gt \frac{1}{z}[/math], but we know that not everyone can have this contract because [math]\frac{N}{z}\gt 1[/math].

(b) My answer, assuming that some shares can be different.

If some shares can be different, then the optimal contract is where some number $M<N$ workers get $s_{i}=\frac{1}{z}$, and the remainder get $s_{i}=0$. $M$ is the largest number such that $\frac{M}{Z}\leq 1$. $M$ workers will provide effort, and $N-M$ workers will shirk.

Question B1.2

Question B1.3

Question C1: Agenda Control and Status Quo

(i)

(ii)

(iii)

(iv)