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The political economy of indirect control

Yared, Pierre and Padró i Miquel, Gerard (2012) The political economy of indirect control. Quarterly Journal of Economics, 127 (2). pp. 947-1015. ISSN 0033-5533

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Identification Number: 10.1093/qje/qjs012


This article characterizes optimal policy when a government uses indirect control to exert its authority. We develop a dynamic principal-agent model in which a principal (a government) delegates the prevention of a disturbance–such as riots, protests, terrorism, crime, or tax evasion–to an agent who has an advantage in accomplishing this task. Our setting is a standard repeated moral hazard model with two additional features. First, the principal is allowed to exert direct control by intervening with an endogenously determined intensity of force which is costly to both players. Second, the principal suffers from limited commitment. Using recursive methods, we derive a fully analytical characterization of the intensity, likelihood, and duration of intervention. The first main insight from our model is that repeated and costly equilibrium interventions are a feature of optimal policy. This is because they are the most efficient credible means for the principal of providing incentives for the agent. The second main insight is a detailed analysis of a fundamental trade-off between the intensity and duration of intervention which is driven by the principal's inability to commit. Finally, we derive sharp predictions regarding the impact of various factors on the optimal intensity, likelihood, and duration of intervention. We discuss these results in the context of some historical episodes.

Item Type: Article
Official URL:
Additional Information: © 2012 The Authors
Divisions: Economics
Subjects: H Social Sciences > HB Economic Theory
J Political Science > JA Political science (General)
JEL classification: D - Microeconomics > D0 - General > D02 - Institutions: Design, Formation, and Operations
D - Microeconomics > D8 - Information, Knowledge, and Uncertainty > D82 - Asymmetric and Private Information
H - Public Economics > H1 - Structure and Scope of Government > H10 - General
Date Deposited: 07 Nov 2012 16:57
Last Modified: 20 Oct 2021 01:58

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