Coalitions, Incentives, and Risk Sharing

This paper analyzes the effects of coalitional behavior in principal-multiagent relationships with moral hazard and identifies cases where the principal prefers agents to form a coalition via side contracting. It is shown that the principal can implement given efforts, via non-individualistic incentive contracts, at a lower cost when the agents can monitor each other’s efforts perfectly and hence coordinate their effort choice than when the agents behave independently. Permitting the principal to utilize more complex communication mechanisms does not alter the result, for there is no coalition-proof revelation mechanism improving the principal’s welfare. Journal of Economic Literature Classification Number: D82.