Production externalities and two-way distortion in principal-multi-agent problems (Q1577932)

The paper presents an analysis of principal-multi-agent model with hidden information where there are positive production externalities between agents. The principal has to design the contract subject to the constraints that it must be either a dominant strategy or Bayes-Nash equilibrium strategy for each agent to tell the truth. The focus of this paper is on the nature of the distortion in output and effort induced by the optimal contract. It is shown that the presence of positive production externalities between agents leads, under quite general conditions, to two-way distortion, with the output of any agent being oversupplied when his marginal cost of effort is low and undersupplied when his marginal cost of effort is high. One result of the paper indicates that, when the number of agents is large, the principal can restrict the attention to dominant-strategy incentive-compatible contracts. Finally, the related literature, especially the work on countervailing incentives in principal-multi-agent problems, is discussed.