Agency Problems and Commitment in Delegated Bargaining

Abstract

In many economic situations, delegates are hired to play games for their principals. The principal-agent literature focuses on agency problems in the delegation relationships. Following Schelling (1960), the delegation literature emphasizes the commitment effects of delegation contracts against a third party. But not much attention has been paid to the interactions between agency problems and commitment considerations. In the context of one-sided delegated bargaining, we analyze how a principal (a seller) should design the delegation contract in order to provide proper incentives for her delegate (an intermediary) AND gain strategic advantage against a third party (a buyer). We assume that there are both moral hazard and adverse selection problems in the delegation relationship and every player is risk neutral. In the absence of commitment effect, it is shown that a linear contract is optimal. When delegation contracts have commitment value, the seller can gain substantially by committing the delegate to a minimum price, above which she pays the delegate a commission. We show that the seller's strategic manipulation of the delegation contract may cause bargaining failures between the delegate and the buyer when the seller sets a minimum price exceeding some buyers' valuations. Furthermore, the interaction between commitment (through minimum prices) and incentives (measured by commission rates) depends on the nature of the agency problem. When the delegate exerts "bargaining effort" to increase his bargaining power against the buyer, incentives and commitment are substitutes and hence move in opposite directions as the environment changes. When the delegate exerts "marketing effort" to increase the change of finding a buyer, incentives and commitment are neither substitutes nor complements, so can be positively or negatively correlated. We also derive comparative statics of the model. Extensions to multidimensional efforts and unobservable contracts as well as applications to car dealerships are briefly discussed.