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The role of contracts in industrial organisation theory

Bolton, Patrick (1986) The role of contracts in industrial organisation theory. PhD thesis, London School of Economics and Political Science.

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The thesis comprises three chapters and an introduction. Chapter 1 extends the basic Principal-Agent model by allowing the principal to investigate the agent after the latter has chosen his action. The threat of investigation can be used by the principal as an incentive-scheme. As is well known, this scheme is most effective when the punishment imposed on an agent who is found shirking is as large as possible. It is shown, however, that there will be limits to the optimal size of penalties if the principal makes inspection-errors and if he cannot precommit himself to a given inspection-strategy. Furthermore, if one of these two assumptions is not verified then the principle of maximum deterrence may still apply. Chapter 2 addresses the question of whether an incumbent seller who faces a threat of entry into his market does prevent entry by signing long-term contracts with his customers. The related question of the optimal length of contracts between the incumbent and his clients is also considered. It is shown that such contracts do prevent entry to some extent but that they never completely preclude it. Furthermore, it is established that such contracts are socially inefficient. Finally, when the seller possesses superior information about the likelihood of entry, it is shown that optimal contracts may be of finite length, since the length of the contract may act as a signal of the likelihood of entry. Chapter 3 deals with vertical restraints in manufacturer-retailer contractual relations. The case of a manufacturer who sells a homogeneous good to retailers who compete in prices and "post-sales" services, is considered. It is shown that simple forms of vertical restraints, such as resale-price-maintenance and franchise-fees, dominate the optimal linear-price contract but are dominated by vertical integration. The analysis is concluded with the description of an optimal contract.

Item Type: Thesis (PhD)
Additional Information: © 1986 Patrick Bolton
Library of Congress subject classification: H Social Sciences > HB Economic Theory
H Social Sciences > HD Industries. Land use. Labor > HD2329 Industrialization
Supervisor: Hart, Oliver

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