Moral Hazard and Observability.

Holmstrom, B. (1979). Moral Hazard and Observability. Bell Journal of Economics, 10(1), 74-91.

Type

Journal article

Intellectual base

Primary research

Year

1979

Volume

10

Issue

1

Pages

74-91

DOI

10.2307/3003320

DOI registrant

JSTOR

Link

https://doi.org/10.2307/3003320

Cited from

economics_finance, military_strategic_studies, political_science

Cited by

8 citations across 8 artifacts.

Each citation links to the sentence it supports in the citing article.

Primes

• Accountability
  • Collective accountability is humbling (institutions are complex; no one person controls outcomes) but, as Holmström (1979) shows in his foundational analysis of moral hazard under unobservable effort, can diffuse responsibility into no one being accountable

    This sourceFoundational moral-hazard model: when an agent's action is only partially observable, optimal contracts condition pay on every informative signal of effort.

• Agency Problem
  • … goals or pursuit of perks), diverging risk preferences (the principal as residual claimant may be less risk-averse than the agent who depends on wage income), and information asymmetries (moral hazard: the agent's action is hidden and unobservable; adverse selection: the agent's type or ability is hidden and unknown)

    This sourceFoundational moral-hazard model: the optimal contract conditions pay on every informative signal of effort and trades risk-sharing against incentive provision for a risk-averse agent (the informativeness principle / second-best). SUPPORTS the four claims it is cited on: the moral-hazard/adverse-selection sources of misalignment, Holmström's optimal-contract theorem, the risk-sharing-vs-incentives second-best trade-off, and the 'not always resolvable by pay-for-performance' point.

• Authority Delegation Under Uncertainty
  • A core function of Authority Delegation Under Uncertainty is to distinguish between two different types of delegation problems. Specified-Contingency Delegation assumes the delegator has identified possible cases and can define criteria: "If inventory falls below X, order Y" — the contractible-actions regime Holmström (1979) used as the baseline against which moral-hazard problems are defined.

    This sourceFoundational moral-hazard model: optimal contracts condition pay on every informative (contractible) signal of effort; defines the contractible-actions baseline that specified-contingency delegation assumes.

    Supported in partVerified against the work's full text

    Holmstrom treats observable actions with a forcing contract as the first-best benchmark; the delegation framing and inventory example are the encyclopedia's own.

    “In simple situations complete monitoring may be possible, in which case a first-best solution (entailing optimal risk sharing) can be achieved by employing a forcing contract that penalizes dysfunctional behavior.”

    Read by an automated reader; not a human review. How support was checked

• Incentive Compatibility
  • … executive compensation schemes, supplier contracts, and performance-based pay are structured so the agent's utility-maximizing action aligns with the principal's desired action — the central design problem of Jensen and Meckling (1976) and the principal-agent literature, with formal foundations in Holmström (1979)

    This sourceFoundational moral-hazard model: when an agent's action is partially observable, optimal contracts condition pay on every contractible signal of effort. Defines the contractible-actions baseline that specified-contingency delegation assumes — and against which genuinely unknown contingencies break.

• Moral Hazard
  • The formalization by Arrow (1963) , Pauly (1968) , Mirrlees (1971–75) , and Holmström (1979)

    This sourceFoundational moral-hazard model: when an agent's action is partially observable, optimal contracts condition pay on every contractible signal of effort. Defines the contractible-actions baseline that specified-contingency delegation assumes — and against which genuinely unknown contingencies break.

• Risk Pooling
  • Too much incentive structure (high deductibles, intrusive monitoring) undermines the pooling benefit; too little allows moral hazard to erode the pool, a principal–agent trade-off Holmström (1979) characterized via the informativeness principle for optimal contracts.

    This sourceFoundational moral-hazard model: when an agent's action is partially observable, optimal contracts condition pay on every contractible signal of effort. Defines the contractible-actions baseline that specified-contingency delegation assumes — and against which genuinely unknown contingencies break.

    Supported in partVerified against the work's full text

    Holmström derives the second-best trade-off between risk sharing and incentives, optimal deductibles under moral hazard, and that a signal has value only if informative.

    “In these instances Pareto-optimal risk sharing is generally precluded, because it will not induce proper incentives for taking correct actions. Instead, only a second-best solution, which trades off some of the risk-sharing benefits for provision of incentives, can be achieved.”

    Read by an automated reader; not a human review. How support was checked

Mechanisms

• Clawback or Reversion Clause
  • The subsidy stayed contingent on the outcome it was bought for, which is what keeps skin in the game and blunts the moral hazard of a one-way payment.
• Incentive Contract
  • The best contracts follow the logic that pay should load on the signals most informative about the outcome the principal cares about, and share risk only as far as the agent can bear.

    This sourceDerives that incentive contracts should use performance signals that add information about the agent’s action while balancing incentive benefits against the cost of imposing risk on the agent.

Verification

Does it exist? Confirmed. This work's DOI resolves to a registered record, which fixes its identity. That is all it fixes.

Does it back the claim? Read against the text for 2 of 8 citations: 2 supported in part. Each verdict is shown under its citation below, with what in the work backs the sentence.

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Links previously used in the corpus

Before the registry existed this work was also linked 1 other way.

• https://www.jstor.org/stable/3003320 ×1

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