Discussion paper

DP12872 Instrument-Based vs. Target-Based Rules

We develop a simple delegation model to study rules based on instruments vs. targets. A principal faces a better informed but biased agent and relies on joint punishments as incentives. Instrument-based rules condition incentives on the agent's observable action; target-based rules condition incentives on outcomes that depend on the agent's action and private information. In each class, an optimal rule takes a threshold form and imposes the worst punishment upon violation. Target-based rules dominate instrument-based rules if and only if the agent's information is sufficiently precise. An optimal hybrid rule relaxes the instrument threshold whenever the target threshold is satisfied.

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Citation

Halac, M and P Yared (2018), ‘DP12872 Instrument-Based vs. Target-Based Rules‘, CEPR Discussion Paper No. 12872. CEPR Press, Paris & London. https://cepr.org/publications/dp12872