Susanne Ohlendorf and Patrick W. Schmitz
International Economic Review, Vol. 53 (2), 2012, 433-452.
Abstract. We consider a repeated moral hazard problem, where both the principal and the wealth-constrained agent are risk-neutral. In each of two periods, the principal can make an investment and the agent can exert unobservable effort, leading to success or failure. Incentives provided in the second period act as carrot and stick for the first period, so that effort is higher after a success than after a failure. If renegotiation cannot be prevented, the principal may prefer a project with lower returns; i.e., a project may be "too good" to be financed or, similarly, an agent can be "overqualified."
The working paper version is available for download (CEPR Discussion Paper 6725).
The paper is available for download.