Relational contracts-informal agreements sustained by the value of future relationships-are prevalent within and between firms. We develop repeated-game models showing why and how relational contracts within firms (vertical integration) differ from those between (non-integration). We show that integration affects the parties' temptations to renege on a given relational contract, and hence affects the best relational contract the parties can sustain. In this sense, the integration decision can be an instrument in the service of the parties' relationship. Our approach also has implications for joint ventures, alliances, and networks, and for the role of management within and between firms.
This paper studies career concerns-concerns about the effects of current performance on future compensation-and describes how optimal incentive contracts are affected when career concerns are taken into account. Career concerns arise frequently: they occur whenever the market uses a worker's current output to update its belief about the worker's ability and competition then forces future wages (or wage contracts) to reflect these updated beliefs. Career concerns are stronger when a worker is further from retirement, because a longer prospective career increases the return to changing the market's belief.In the presence of career concerns, the optimal compensation contract optimizes total incentives-the combination of the implicit incentives from career concerns and the explicit incentives from the compensation contract. Thus, the explicit incentives from the optimal compensation contract should be strongest when a worker is close to retirement We find empirical support for this prediction in the relation between chief-executive compensation and stock-market performance.
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