Ahmadzadeh, Amirreza (2024) Costly state verification with Limited Commitment. TSE Working Paper, n. 24-1570, Toulouse

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Abstract

This paper examines a principal–agent model without transfers in which a Principal mandates actions and conducts costly inspections. The Prin-cipal trades off the benefit of mandating her preferred actions against the Agent’s participation, information rents, and inspection costs. I examine which form of commitment matters. Under full commitment, efficient types of the agent are pooled without inspection, intermediate types are inspected with interior probabilities and rewarded for truth-ful reporting after verification, and inefficient types are excluded. In the limited-commitment cases, the Principal’s preferred equilibrium involves only deterministic inspection. If she commits only to actions, this equilibrium is the optimal full-commitment mechanism restricted to deterministic inspection; if she commits only to inspection, it requires inspecting some inefficient types.