COWLES FOUNDATION FOR RESEARCH IN ECONOMICS
AT YALE UNIVERSITY

Box 208281
New Haven, CT 06520-8281

COWLES FOUNDATION DISCUSSION PAPER NO. 1823

Optimally Empty Promises and Endogenous Supervision

David A. Miller and Kareen Rozen

October 2011
Revised June 2012

We study optimal contracting in team settings, featuring stylized aspects of production environments with complex tasks. Agents have many opportunities to shirk, task-level monitoring is needed to provide useful incentives, and because it is difficult to write individual performance into formal contracts, incentives are provided informally, using wasteful sanctions like guilt and shame, or slowed promotion. These features give rise to optimal contracts with "empty promises" and endogenous supervision structures. Agents optimally make more promises than they intend to keep, leading to the concentration of supervisory responsibility in the hands of one or two agents.

Keywords: Partnership, Teams, Moral hazard, Monitoring, Supervision, Informal sanctions

JEL Classification: C72, D03, D86