SFB 303 Discussion Paper No. A - 550
Author: Kessler, Anke S.
Title: Optimal Monitoring in Hierarchical Relationships
Abstract: This paper studies a stylized three-layer agency framework in
which a principal hires a supervisor to monitor the agent's productive
effort. The principal has access to several monitoring technologies
which differ in the quantity and the quality of the information they
deliver. Three cases are distinguished. First, if the supervisor is
honest it is demonstrated that the principal's expected return from the
relationship is independent of the quantity of information the
supervisor collects. The same result is shown to hold when the
supervisor can collude with the agent but his report is "hard
information", i.e. if the supervisor/agent coalition can only conceal
but not falsify monitoring evidence. In both cases, the principal can
achieve a first-best if the monitoring technology is sufficiently
precise even though the supervisor and the agent are wealth-constrained
and unbounded punishments are not feasible. Finally, if the
supervisor's information is 'soft', the principal benefits both from
the frequency and the accuracy of the supervisor's observations. This
is the only case in which collusion imposes an additional cost on the
principal. In addition, the findings suggest that it is strictly better
for the principal to monitor the agent's action rather than testing for
the unknown characteristics of the agent.
Keywords: Information Structure, Hierarchies, Collusion
JEL-Classification-Number: D82, L23
Creation-Date: January 1997
Unfortunately this paper is not available online. Please contact us to order a hardcopy.
SFB 303 Homepage
05.05.1998, Webmaster