Delegated Contracting

TL;DR

This paper characterizes outcomes in delegated contracting where a principal restricts an agent’s contract menu, linking it to Bayesian mechanisms, and explores optimal restrictions and limitations of delegation.

Contribution

It provides a novel characterization of delegated contracting outcomes via Bayesian mechanisms and analyzes optimal restrictions and inherent limitations of delegation.

Findings

Delegated contracting outcomes match centralized Bayesian mechanisms with incentive compatibility.

Full flexibility below an expected spending cap is optimal for procurement.

Delegated contracting cannot efficiently dissolve partnerships, unlike centralized mechanisms.

Abstract

A principal contracts with an agent through an informed delegate. Although the principal cannot directly mediate the interaction, she can restrict the menus of contracts the delegate may offer. We characterize the outcomes implementable through delegated contracting: they are exactly those achievable by a centralized Bayesian mechanism that is dominant-strategy incentive compatible and ex-post individually rational for the agent. We use this result to identify the optimal contractual restrictions in several settings. First, an organization that procures through a budget-indulgent agency should grant full flexibility below an expected spending cap. Second, unlike centralized mechanisms, delegated contracting can never dissolve partnerships efficiently, highlighting a limit to delegated authority. Finally, a seller can entrust sales to an intermediary without revenue loss by combining a resale price agreement with a buyback policy.