Introduction
1 Incentive Problems
1.1 Main Issues in Contracting
1.2 The principal’s problem
1.3 Agency Problems in Corporate Finance
1.4 Empirical evidences on managerial compensation
2 Basic Structures of Contracting Problems
2.1 The First Best Problem
2.1.1 Certainty case
2.1.2 Uncertainty case
2.2 The second-best problem
2.2.1 Social planner’s problem
2.3 Exercises
3 Discrete-Time Formulation I 33
3.1 The First-Best Contract
3.2 The Second Best Contract
3.2.1 Risk-neutral Agent
3.2.2 Risk-Averse Agent
3.3 Remarks on the discrete-time and binomial-outcome model
3.4 Notes
3.5 Exercises
4 Discrete-Time Formulation II
4.1 The First Best
4.2 The Second Best
4.2.1 The First-Order Approach
4.2.2 The Shape of the Second-Best Contract
4.2.3 The Value of Informative Signal in Contracting
4.2.4 Summary
4.3 The Validity of the First-order Approach
4.3.1 The First-Order Approach with a Normally-Distributed Outcome
4.3.2 Normally Distributed Outcome
4.4 Notes
4.5 Exercises
5 Contracting in Continuous Time: Time-Multiplicative Pref-
erences
5.1 The Model
5.2 The representation of admissible contracts
5.3 The First Best
5.3.1 The First-Best Solution with a General Outcome Process
5.4 Second-best Contracting
5.4.1 The Agent’s Problem
5.4.2 The Principal’s Problem
5.4.3 The Second-best Solution with a General Non-Markovian
Outcome Process
5.5 Application to Managerial Compensation
5.6 Notes
5.7 Exercises
6 Optimal Performance Metrics
6.1 Relative Performance Evaluation (RPE)
6.1.1 RPE in the Presence of Financial Markets
6.2 Notes
6.3 Exercises
7 Contracting under Incomplete Information
7.1 Case I: d?t = 0
7.2 Case II: a(t) = a and b(t) = b
7.3 Notes
7.4 Exercises
8 Career Concerns in Competitive Labor Markets
8.1 The Model
8.2 Agent’s Problem and Market Expectation
8.3 Principal’s Problem
8.4 Notes
8.5 Exercises
9 Agency Problem in Weak Formulation
9.1 The Agent’s Problem
9.2 The Principal’s Problem
9.2.1 Markovian Outcome
9.3 Notes
10 Contracting with a Mean-Volatility Controlled Outcome
10.1 The Agent’s Mean-Volatility Control Problem
10.2 Principal’s Problem: Observable Volatility
10.2.1 Markovian Outcome
10.3 Unobservable Volatility
10.4 Comparing Observable and Unobservable Project Decisions
10.4.1 Unobservable volatility case II
10.5 Notes
10.6 Exercises
11 Hierarchical Contracting: A Mean-Volatility Control Problem
11.1 The Model
11.2 Optimal Performance-Based Contracts
11.3 Profit Sharing under Hierarchical Contracting
11.3.1 Middle Managerial Contracts
11.3.2 Top Managerial Contract
11.4 Notes
11.5 Exercises
12 Contracting in Continuous Time: Time-Additive Preferences
12.1 The Model
12.2 The First Best
12.3 The Second Best
12.4 Notes
12.5 Exercises
13 Contracting under Ambiguity: Introduction
13.1 Additional remarks on risk and ambiguity
13.1.1 True vs. Perceived Distributions
13.1.2 A submartingle property
13.1.3 Learning from each other
13.2 A discrete-time model
13.3 The Structure of Optimal Contracts
13.4 The First-Best Contract
13.5 The Second-Best Contract
13.6 Notes
13.7 Exercises
14 Contracting under Ambiguity in Continuous Time
14.1 The Principal-Agent Problems
14.2 Representation of Admissible Contracts
14.2.1 Why the K Process?: A Digression
14.3 First-Best Contracting
14.4 Second-Best Contracting
14.4.1 Incentive Compatibility
14.4.2 Principal’s Problem
14.5 A Linear-Quadratic Case
14.6 Notes
14.7 Exercises
15 Information Asymmetry: Adverse Selection
15.1 The Model: Pure Adverse Selection
15.2 The Two-Type Case
15.2.1 The first best
15.2.2 Asymmetric information: The second best
15.2.3 Intuition
15.3 Continuum of Types
15.4 Notes
16 Adverse Selection and Moral Hazard
16.1 Continuous-Time Contracting
16.2 The Principal’s Problem
16.3 Notes
A
A.1 A Brief Review on Stochastic Calculus
A.2 Dynamic Programming Equation with Exponential Utility
A.3 Martingale Method
A.3.1 Integral Objective
A.3.2 Exponential Objective
A.4 Mean-Volatility Control in Weak Formulation
A.4.1 Admissible Probability Measures
A.4.2 The mean-volatility control problem
