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Centralized and Decentralized Contracts in a Moral Hazard Environment

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  • Inés Macho‐Stadler
  • J. David Pérez‐Castrillo
Abstract
We study the optimal allocation of the contracting capacity in a moral hazard environment. Centralizing is superior when the principal is able to establish all the contracts with the agents simultaneously and she is able to monitor side contracting between the agents. Otherwise, decentralizing can be a superior strategy. We apply our results to a firm’s decision on which outlets to franchise. They suggest that franchising is more likely to occur the further the store is from headquarters, the more isolated it is and in those activities where the risk is low. This conclusion is consistent with empirical studies.

Suggested Citation

  • Inés Macho‐Stadler & J. David Pérez‐Castrillo, 1998. "Centralized and Decentralized Contracts in a Moral Hazard Environment," Journal of Industrial Economics, Wiley Blackwell, vol. 46(4), pages 489-510, December.
    • Handle: RePEc:bla:jindec:v:46:y:1998:i:4:p:489-510
    DOI: 10.1111/1467-6451.00084
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