Who is Really Managing Reputations?

Abstract

I consider many principals who interact sequentially against the same agent. The agent hides his disutility for efforts from the principals, and tries to use this asymmetric information to extract some surplus from the principals. Principals are isolated, and can coordinate their actions only through direct communication. I show that communication is systematically manipulated by the principals, and that it leads to inefficiency. The result holds not only with Bayesian principals, but also for most ways of updating beliefs. I introduce a new concept of equilibrium to take account of non-Bayesian updating; this concept generalizes the concept of Sequential Equilibrium introduced in Kreps and Wilson \cite{Kr-Wi}. I characterize all the equilibria. The inefficiency generated by this form of direct communication is made clear by the above characterization.