Ex ante contracting with inequity aversion

Abstract

We introduce that the principal and the agent can contract at the ex ante stage, and allow for risk-averse agents with inequity aversion to analyse the properties of the optimal incentive scheme under adverse selection. Contrary to the solutions of standard adverse selection problems, our main finding is that the efficient agent who is a risk-averse in presence of concerns with inequity produces more than first-best level, whereas the inefficient agent produces less than second-best level than canonical pure adverse selection output.