Collective Reputation and Relational Contracts

Stanford University, Stanford CA

Investigators

Abstract

This project studies the role of reputation and long-term relationships in overcoming the incentive problems that arise in many economic transactions. The first part of the project studies collective reputation. Just as individuals develop reputations for fair dealing or competence or ability, so do the firms, organizations, professional associations and other groups to which they belong. These groups are not unitary actors. Their reputations reflect the characteristics and behavior of their members. In turn, when individual members care about their own reputations, they will be concerned with and influenced by the group's reputation. I investigate how individual behavior, group reputation, and group composition co-evolve in a dynamic setting. Among the questions analyzed are why organizational and institutional reputations tend to persist over time, whether individuals will tend to self-select into groups solely on the basis of reputational concerns, and when groups will make collective decisions to employ mechanisms that ensure the underlying competence and good behavior of members. The second part of the project studies incentive provision in ongoing relationships. In earlier work, I developed a repeated game model of incentive contracting and showed that in a variety of settings optimal self-enforcing agreements (relational contracts) could take a simple stationary form that facilitated detailed characterization. The problem was motivated by an interest in problems of organizational design --- how firms might optimally structure relationships with employees, suppliers, customers and creditors taking into account that even well-conceived legally binding contracts might leave significant room for discretion. A continuation of this work considers relational contracting with multiple trading partners. A main question is whether the status of a firm's relationship with a given constituent (say, one set of employees) ought to be contingent on all aspects of the firm's behavior (say, its treatment of all other employees), or just those aspects that are directly relevant. The basic argument is that the while there is less temptation to renege on a multilateral contract, such contracts are costly in uncertain environments because even minor unanticipated shocks may necessitate large adjustment costs or cause a whole series of relationships to unravel.