What is IC constraint?

What is IC constraint?

Source: econterms. IC stands for “incentive compatible”. When solving a principal-agent maximization problem for a contract that meets various criteria, the IC constraints are those that require agents to prefer to act in accordance with the solution.

What is first best solution?

This is a general result: In a first-best solution, every policy instrument is chosen in a way as if there would be only the problem addressed by this instrument. In many cases, however, we face less benign problems. Often, we do not have enough policy instruments to address all problems.

What is the optimal contract when effort is observable?

agent model with observable effort, an optimal contract specifies that the agent choose the effort e* that maximizes [/ πf (π)e) dπ vL” (u + g (e))] and pays the agent a fixed wage w* & vL” (u + g (e)). This contract is the uniquely optimal contract if v” (w) < 0 at all w.

What is a direct mechanism?

Direct Mechanism: A mechanism where the message space is the type space and the outcome function is the social choice function. Dominant Strategy: A strategy that is a best regardless of the strategies chosen by other individuals.

What is an incentive compatible contract?

A contract designed to ensure mutually beneficial behaviour by the parties. So, for example, the employment contracts of a company’s managers might incorporate a bonus system to make sure that their interests and those of the shareholders are congruent.

What is individual rationality constraint?

1. The incentive an individual economic agent has to participate in a given game. In this article, when this incentive is satisfied a user is ready to accept to subscribe to a network given the subscription fee, the quality and the variety offered by that network.

What is a second best contract?

The solution to an optimal contract problem is called “second best” if it maximizes the principal’s objective function subject to all constraints, including the incentive constraints. Usually, one calls a contract “second best” only if it differs from the “first best” contract.

What is first best and second best?

A first-best policy is that policy that can improve national welfare to the greatest extent when beginning in a second-best equilibrium. A second-best policy is one whose best national welfare effect is inferior to a first-best policy when beginning in a second-best equilibrium.

Can the same outcome be achieved when effort is unobservable?

A basic result is that the owner can achieve the same value with a compensation contract when effort is unobservable. This contract then must be optimal because the owner cannot do better under unobservable effort than under observable effort. Consider a compensation schedule of the form: .

What is a mechanism of the economic theory?

A mechanism is a mathematical structure that models institutions through which economic activity is guided and coordinated. They seek to do so in ways that economize on the resources needed to operate the institutions, and that provide incentives that induce the required behaviors.

What is a mechanism theory?

Mechanism design theory is an economic theory that seeks to study the mechanisms by which a particular outcome or result can be achieved.

What are the components of a principal agent model?

The main element in the principal-agent model is trust. You trust that both you and the agent acting on your behalf have the same incentives. Conflicts in those incentives arise and create what’s known as a principal-agent problem.

What are participation and incentive compatibility constraints?

The participation constraint ensures that some people would rather be employed in the factory than do something else. The incentive compatibility constraint ensures that the employees are motivated to act in the owner’s interest. Harvey S. James, Jr.

What is incentive compatibility in economics?

Incentive compatibility. In economics, incentive compatibility is used as one of two important constraints in an optimization problem in which a person (such as a firm owner) must rely on others to maximize some criteria (such as profits ): the participation constraint ensures that people want to participate,…

What is Bayesian incentive-compatibility?

A weaker degree is Bayesian-Nash incentive-compatibility ( BNIC ). It means that there is a Bayesian Nash equilibrium in which all participants reveal their true preferences. I.e, if all the others act truthfully, then it is also best or at least not worse for you to be truthful.

What is dominant-strategy incentive compatibility?

Incentive compatibility. The stronger degree is dominant-strategy incentive-compatibility (DSIC). It means that truth-telling is a weakly- dominant strategy, i.e you fare best or at least not worse by being truthful, regardless of what the others do. In a DSIC mechanism, strategic considerations cannot help any agent achieve better outcomes…