An Uncertain Wage Contract Model with Adverse Selection and Moral Hazard

Xiulan Wang,Jiao Wang,Yanfei Lan

doi:10.1155/2014/282867

Xiulan Wang, Jiao Wang + Show 1 more

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https://doi.org/10.1155/2014/282867

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Abstract

This paper considers a wage contract design problem faced by an employer (he) who employs an employee (she) to work for him in labor market. Since the employee's ability that affects the productivity is her private information and cannot be observed by the employer, it can be characterized as an uncertain variable. Moreover, the employee's effort is unobservable to the employer, and the employee can select her effort level to maximize her utility. Thus, an uncertain wage contract model with adverse selection and moral hazard is established to maximize the employer's expected profit. And the model analysis mainly focuses on the equivalent form of the proposed wage contract model and the optimal solution to this form. The optimal solution indicates that both the employee's effort level and the wage increase with the employee's ability. Lastly, a numerical example is given to illustrate the effectiveness of the proposed model.

Highlights

Wage mechanism design problem is important for the employer, which is related to the development of the firm the employer owns
Myerson [1] established a principal-agent model with adverse selection only, and Grossman and Hart [2] investigated the principal-agent problem under moral hazard
Ö zer and Raz [4] considered supply chain sourcing under asymmetric information, and Lan et al [5] studied multifirm regulation problem applying principal-agent theory

Summary

Introduction

Wage mechanism design problem is important for the employer, which is related to the development of the firm the employer owns. Page [3] studied the optimal contract mechanism for principal-agent problem with adverse selection and moral hazard. Most literature on wage contract design problem described the involving of uncertain information as random variable. Wang et al [22] and Mu et al [23] provided uncertain wage contract models with adverse selection only. The uncertain wage contract design problem with adverse selection and moral hazard has not been together examined in the existing literature. This paper investigates an uncertain wage contract design problem with adverse selection and moral hazard in labor market.

Preliminaries

An Uncertain Wage Contract Model

Model Analysis

Numerical Example

Conclusion