THE IMPORATNCE OF ASYMMETRIC INFORMATION IN CONTRACTS AND ORGANIZATIONS

• Sponsoring Institution: National Institute of Food and Agriculture
• Project Status: COMPLETE
• Funding Source: HATCH
• Reporting Frequency: Annual
• Accession No.: 1010965
• Project Start Date: Nov 4, 2016
• Project End Date: Sep 30, 2021
• Program Code: [(N/A)]- (N/A)

Recipient Organization
NORTH CAROLINA STATE UNIV
(N/A)
RALEIGH,NC 27695

Performing Department
Agricultural and Resource Economics

Non Technical Summary
Economic organizations are created entities that people use to interact in order to achieve individual and collective economic goals. Entities regarded as organizations are corporations, partnerships, sole proprietorships, cooperatives, non-for-profit organizations, etc. Their key characteristic is their independent legal identity which enables them to enter binding contracts, separate from individuals who belong to these organizations. Markets and hierarchies, sometimes regarded as the major discrete alternatives for organizing economic activity, are in fact just two extreme forms of organizational contracting where the voluntary bargaining characterizes the markets and strict lines of authority characterizes hierarchies. One of the central problems of economic organization and management is motivation and the directly related problem of asymmetric information. Motivation questions arise because individuals have their own private interests, which are rarely perfectly aligned with the interests of other individuals or with the interest of groups where they belong. In principle, a perfectly designed complete contract could solve the motivation problem. However, complete contracts are impossible to write because all possible contingences cannot be specified up-front. Even if all contingencies can be foreseen and contractual commitments can be enforced, one of the parties to the contract may have relevant private information before the contract is signed that interferes with the possibility of reaching a value-maximizing agreement. This source of inefficiency is called adverse selection. Even if there is no private information before the contract is assigned, there may be inadequate information afterward to tell whether the terms of the agreement have been honored. This opens the possibility of self-interested misbehavior and the recognition of this moral hazard problem limits contracts that can be written and enforced. Real life contract are neither perfect nor complete. The main objective of this research program is to investigate organizations in agriculture and in sectors that buy agricultural outputs and supply agricultural inputs and services with the main emphasis on the importance of asymmetric information problems (adverse selection and moral hazard) as real impediments to efficient contracting.

Animal Health Component

100%

Research Effort Categories

Basic

(N/A)

Applied

100%

Developmental

(N/A)

Classification

Knowledge Area (KA)	Subject of Investigation (SOI)	Field of Science (FOS)	Percent
601	6030	3020	100%

Knowledge Area
601 - Economics of Agricultural Production and Farm Management;

Subject Of Investigation
6030 - The farm as an enterprise;

Field Of Science
3020 - Education;

Keywords

agricultural contracts

adverse selection

moral hazard

Goals / Objectives
The goals of this project can be divided in three sub-projects:In the first group, the objective is to study the tournament compensation schemes in broiler contracts with an emphasis on the provision of incentives under different regulatory schemes and the problem of optimal sorting into contests. First, the goal is to analyze the optimal response of a principal to the regulatory proposal which would truncate agents' bonus payment in a piece rate tournament at zero. In a model with risk-neutral and heterogeneous abilities agents, the objective is to analyze the principal's problem of optimal choice of contract parameters under both regular and truncated tournament scenarios. Second, the objective is to investigate sorting patterns among chicken producers who are offered a menu of contracts to choose from. Contracts are different with respect to the type/size chickens to be grown for an integrator company. An interesting question is whether sorting equilibrium exist and whether the empirical data are supportive of such an equilibrium.The main objective of the second group of projects is analyze the importance of moral hazard and adverse selection problems in insurance contracts. First, we plan to use structural approach to separately estimate moral hazard and adverse selection effects in health care utilization using hospital invoices data. The objective is to construct and estimate a model that would explicitly take into account the heterogeneity in the opportunity cost of time of the insured which should, at least in theory, dampen the moral hazard effect. Next, we plan to use the truncated count model and simulated maximum likelihood estimation technique to estimate gender differences in moral hazard. The theory predicts that higher risk aversion is associated with smaller moral hazard effect. Given empirical evidence which seem to be supportive of the fact that women are more risk-averse then men, the working hypothesis is that moral hazard effect due to health insurance should be lower in women than in men. Finally, we plan to use fuzzy regression discontinuity design to estimate the moral hazard effect in health care consumption in the population of young adults who when crossing certain age limit lose insurance based on their parents' insurance policy.The final objective is to try to explain the prevalence of short term contracts in many agricultural organizations governing the relationships between companies and farmers that are characterized by the ownership of relationship specific assets whose useful life extends beyond the contract duration. To do this we will rely on the dynamic moral hazard theory to see whether under some restrictive set of assumptions, contracts designed to mitigate single period (static) moral hazard problems coincide with contracts designed to solve dynamic moral hazard problems.

Project Methods
In this research we will typically use micro-level data sets which document the settlements of various contracts, for example, for the production of broiler chickens, table eggs or hogs between companies and their contract growers, or other type of contracts such as insurance and annuity contracts. Ideally, in these types of panel data sets we would typically observe heterogeneous agents participating in contracts with different characteristics (payment schemes, premiums, deductibles, etc.) and multiple contract realizations for each individual agent. One of the most difficult obstacles to overcome in empirical studies with real life data is that the choice of various contract attributes is usually correlated with observable and unobservable characteristics of firms or agents and can rarely be considered truly exogenous. The use of controllable laboratory experiments is in this respect attractive because the exogeneity of the change in the contract attributes is guaranteed by the design of the experiment. The inability to run controlled experiments in realistic market settings restricts our empirical research to focus on the application of econometric methods that can adequately deal with endogeneity and selection issues. Some level of applied microeconomic theory work is also anticipated in most of our research.

Progress 11/04/16 to 09/30/21

Outputs
Target Audience:Agricultural economists in academia, government, NGOs and private sector, policy makers,relevant stake holdersm, media and public at large. Changes/Problems: Nothing Reported What opportunities for training and professional development has the project provided?The impact of our findings on Proposition 12 regulation in California should be widely read by regulators in states contemplating the introduction of different animal welfare regulatory proposals. How have the results been disseminated to communities of interest?The publication in high profile professional journals and also in trade magazins. For example, our findingson Proposition 12 in California were reported in the widely circulated "Egg Industry insights." What do you plan to do during the next reporting period to accomplish the goals? Nothing Reported

Impacts
What was accomplished under these goals? In November 2018, California passed the so-called Proposition12 that completely bans selling eggs produced inany type of cages by the end of 2021. The objective of ourstudy published in the AJAE wasto estimate the welfare effects of Proposition 12 ina partial equilibrium setup where both the supply and thedemand side of the market are simultaneously modeled.Our estimates show that the implementation of Proposition12 would result in welfare losses for both buyers andsellers of eggs in California. The state-level expectedannual welfare loss to households amounts to $72 million,whereas the industry level losses at the retail level amountto 18% of their original quasi profits. The objective of our obesity study was to establish a causal relationshipbetween the Mediterranean diet (md) and various measures of overweightness using the Croatian Adult Health Survey 2003data. Our results show that among three measures of obesity(body mass index, waist-to-hip ratio (whr ) and obesity (bmi≥ 30), we found statistically the most convincing relationshipbetween the bmi and the md. Our results show that an increasein the Mediterranean diet aggregate index by 10% reducesthe bmi by about 0.9%. When the MD10 index is replacedwith the set of its ten constituent food groups, as a group,these food variables are jointly statistically significant, most of them have expected (negative) signs, and some of them arealso individually significant. For the other two overweightmeasurements (whr and obesity) we found that the impactof md aggregate index is insignificant but when the index isreplaced by its ten constituent food elements, these are jointlystatistically significant in explaining the variation in the obesitymeasures.

Publications

• Type: Journal Articles Status: Published Year Published: 2021 Citation: Oh, S. E. and T. Vukina. The Price of Cage-Free Eggs: Social Cost of Proposition 12 in California. American Journal of Agricultural Economics (2021): 1-34.
• Type: Journal Articles Status: Published Year Published: 2020 Citation: Nestic, D. and T. Vukina. Examining the Prevalence of Obesity in Croatia: The Story of the Mediterranean Diet". Economia agro-alimentare / Food Economy, An International Journal on Agricultural and Food Systems, 22 (3) (2020): 1-32.
• Type: Conference Papers and Presentations Status: Other Year Published: 2021 Citation: Oh, S.E. and T. Vukina. Estimating Parental Demand for Childrens Screen Time in a Model of Family Labor Supply. 20th Journ�es Louis-Andre Gerard-Varet, International Conference in Public Economics; Marseille, France, June 22-24, 2021.

Progress 10/01/19 to 09/30/20

Outputs
Target Audience:Agricultural economists in academia, government, NGOs and private sector, policy makers and relevant stakeholders. Changes/Problems: Nothing Reported What opportunities for training and professional development has the project provided? Nothing Reported How have the results been disseminated to communities of interest?Via publication in a high profile professional journal. What do you plan to do during the next reporting period to accomplish the goals?Since the project is in its final year, the remainder of the period will be used to explore the new directions that naturally arisefrom the current research program.

Impacts
What was accomplished under these goals? In the paper "Risk Aversion, Moral hazard and Gender Differences in Health care Utilization" we use truncated count model with endogeneity and simulated maximum likelihood estimation technique to estimate gender differences in moral hazard in health care insurance. We use the dataset that consists of invoices for all outpatient services from a regional hospital in Croatia. Our theoretical model predicts that higher risk aversion is associated with smaller ex-post moral hazard effect. If women are more risk averse than men, then the moral hazard effect due to health insurance should be lower in women than in men. After adjusting for the sample selection in the estimation, we found a statistically significant evidence of moral hazard for the general population but statistically insignificant difference in moral hazard between men and women.

Publications

• Type: Journal Articles Status: Published Year Published: 2020 Citation: Zheng, Y., T. Vukina and X. Zheng. Risk Aversion, Moral Hazard and Gender Differences in Health Care Utilization. The Geneva Risk and Insurance Review (2020) DOI: https://doi.org/10.1057/s10713-020-00048-x
• Type: Journal Articles Status: Published Year Published: 2020 Citation: Vukina, T. and D. Nestic. Paying for Animal Welfare? A Hedonic Analysis of Egg Prices. Agribusiness: an International Journal, 36 (2020): 613-630. http://dx.doi.org/10.1002/agr.21658
• Type: Conference Papers and Presentations Status: Published Year Published: 2020 Citation: Vukina, T. and D. Nestic: ⿿Explaining the prevalence of obesity in Croatia: The Importance of the Mediterranean diet.⿝ 15th International Symposium on Agriculture, February 16-21, 2020, Vodice, Croatia. Book of Abstracts, pp. 88-89.

Progress 10/01/18 to 09/30/19

Outputs
Target Audience:Target audiences consist of researchers, extension agents and policy makers in land grant universities, government, NGOs and private for profit and non-profit entities in North Carolina, United States and abroad. Changes/Problems: Nothing Reported What opportunities for training and professional development has the project provided? Nothing Reported How have the results been disseminated to communities of interest?I published two journal articles in reputable scientific outlets. What do you plan to do during the next reporting period to accomplish the goals?There is almost finished project under the second objective (insurance contracts) which looks into the differences in the degree of moral hazard between men and women and across different age cohorts.

Impacts
What was accomplished under these goals? In our study of insurance contracts, under second objective, we use a structural approach to separately estimatemoral hazard and adverse selection effects in health care utilization using hospital invoices data. Our model explicitly accounts for the heterogeneity in the non-insurable transactions costs associated with hospital visits which increase the individuals' total cost of health care and dampen themoral hazard effect. A measure of moral hazard is derived as the difference between the observed and the counterfactual health care consumption. In the population of patients with non life-threatening diagnoses, our results indicate statistically significant and economically meaningful moral hazard. We also test for the presence of adverse selection by investigating whether patients with different health status sort themselves into different health insurance plans. Adverse selection is confirmed in the data because patients with estimated worse health tend to buy the insurance coverage and patients with estimated better health choose not to buy the insurance coverage. In our study on sorting into brolier production contests, under the first objective, we investigate sorting patterns among chicken producers who are offered a menu of contracts to choose from. We show that the sorting equilibrium reveals a positive sorting where higher ability producers self-select themselves into contracts to grow larger chickens and lower ability types self-select themselves into contracts to grow smaller birds. We also show that eliciting this type of sorting behavior is profit maximizing for the principal. In the empirical part of the paper, we first estimate growers' abilities using a two-way fixed effects model and subsequently use these estimated abilities to estimate a random utility modelmodel of contract choice. Our empirical results are supportive of the developed theory.

Publications

• Type: Journal Articles Status: Published Year Published: 2019 Citation: Zheng, Y., T. Vukina and X. Zheng. Estimating Asymmetric Information Effects in Health Care with Uninsurable Costs. International Journal of Health Economics and Management, 19 (1) (March 2019): 79-98.
• Type: Journal Articles Status: Published Year Published: 2019 Citation: Wang, Z. and T. Vukina. Sorting into Contests: Evidence from Production Contracts. The B.E. Journal of Economic Analysis and Policy, 19 (1) (Jan. 2019) DOI: https://doi.org/10.1515/bejeap-2018-0049
• Type: Conference Papers and Presentations Status: Accepted Year Published: 2019 Citation: Nestic, D. and T. Vukina. Mediterranean Diet or Social Environment: Explaining Regional Differences in Obesity in Croatia. 13th International Conference Challenges of Europe: Growth, Competitiveness, Innovation and Well-being. Bol, Croatia, May 22-24, 2019.

Progress 10/01/17 to 09/30/18

Outputs
Target Audience:My targeted audience is: (1) North Carolina and the U.S. agricultural community, in particular animal producers, primarily poultry and swine; (2) academic community in the U.S. and abroad; (3) government officials in charge of setting agricultural policy; (4) informed citizens and public at large. Changes/Problems: Nothing Reported What opportunities for training and professional development has the project provided? Nothing Reported How have the results been disseminated to communities of interest?The results have been published in a journal article in a reputable scientific journal. What do you plan to do during the next reporting period to accomplish the goals?Several projectsare well under way: 1) looking into how farmers choose and sort themselves into various types of production contracts which are available to them based on their abilities or risk aversion. 2) how contract growers respond to the changes in incentives presented to them through changes in parameters of the contract settlment payment schemes. 3) looking at the differences in the magnitude of moral hazard effect caused by the differences in risk-aversion; where the latter can be the result of gender, age or income.

Impacts
What was accomplished under these goals? In this time period, we report an important accomplishment in the second group of projects. We used a structural approach to separately estimate moral hazard and adverse selec- tion effects in health care utilization using hospital invoices data. Our model explicitly accounts for the heterogeneity in the transactions costs associated with hospital visits which increase the individuals' total cost of health care and dampen the moral hazard effect. A measure of moral hazard is derived as the difference between the observed and the counterfactual health care consumption. In the population of patients with non life-threatening diagnoses, our results indicate statistically significant and econom- ically meaningful moral hazard. We also test for the presence of adverse selection by investigating whether patients with different health status sort themselves into different health insurance plans. Adverse selection is confirmed in the data because patients with estimated worse health tend to buy the insurance coverage and patients with estimated better health choose not to buy the insurance coverage.

Publications

• Type: Journal Articles Status: Awaiting Publication Year Published: 2018 Citation: Zheng, Y., T. Vukina and X. Zheng. Estimating Asymmetric Information Effects in Health Care with Uninsurable Costs. International Journal of Health Economics and Management, 2018, https://doi.org/10.1007/s10754-018-9246-z
• Type: Book Chapters Status: Published Year Published: 2018 Citation: Vukina, T. and X. Zheng: Agricultural Contracts and Competition Policies. in Agricultural Policy in Disarray Volume II, Chapter 10, pp: 279-303. V.H. Smith, J.W. Glauber and B.K. Goodwin, editors. American Enterprise Institute, Washington D.C. 2018.
• Type: Journal Articles Status: Published Year Published: 2018 Citation: Oh, S.E. and T. Vukina. Substitutability between Organic and Conventional Poultry Products and Organic Price Premiums. Economia Agro-alimentare / Food Economy 20 (1) (2018): 75-92.
• Type: Conference Papers and Presentations Status: Accepted Year Published: 2018 Citation: T. Vukina and D. Nestic. Paying for Animal Welfare? A Hedonic Analysis of Egg Prices. International Food Marketing Research Symposium, June 13-14, 2018; Bournemouth, UK.
• Type: Conference Papers and Presentations Status: Accepted Year Published: 2018 Citation: Vukina, T. Organization of Large Scale Animal Agriculture: Contracting the Production of Broilers in Croatia. IAMO Forum 2018, Large Scale Agriculture  For Profit or Society? June 27-29, Halle (Saale), Germany.
• Type: Theses/Dissertations Status: Published Year Published: 2018 Citation: Black, S. A. and T. Vukina: Estimating Effects of Hatchery Practices on Early Poult Mortality Using Turkey Industry Field Data. in Performance and Economic Impacts of Hatchery and Post-Hatch Constraints on Poult Quality, Chapter 5, pp: 121-153. R. Beckstead, P. Ferket, L. Dean, F. Edens, T. Vukina, and M. Schwartz, advisors, Ph.D. dissertation, North Carolina State University, Raleigh NC, 2018. http://www.lib.ncsu.edu/resolver/1840.20/35505

Progress 11/04/16 to 09/30/17

Outputs
Target Audience:My targeted audience is: (1) North Carolina and the U.S. agricultural community, in particular animal producers, primarily poultry and swine; (2) academic community in the U.S. and abroad; (3) government officials in charge of setting agricultural policy; (4) informed citizens and public at large. Changes/Problems: Nothing Reported What opportunities for training and professional development has the project provided? Nothing Reported How have the results been disseminated to communities of interest?The reserach was published in a reputable outlet: Journal of Economics. What do you plan to do during the next reporting period to accomplish the goals?Couple of projects are well under way: 1) looking into how farmers choose and sort themselves into various types of production contracts which are available to them. 2) how contract growers respond to the changes in incentives presented to them through changes in parameters of the contract settlment payment schemes.

Impacts
What was accomplished under these goals? The main objective of this segment of the project was to evaluate the welfare implications of the proposed truncated tournament policy in broiler contracts from both theoretical and empirical perspectives. The effects of bonus truncation on agents' equilibrium efforts and payments and principal's profit are analyzed using a model with riskneutral, heterogeneous abilities players. We showed that the bonus truncation would induce agents to lower their efforts but the reduction in effort would be smaller for higher ability types. Agents' welfare would increase driven by higher expected payments and lower efforts while the principal profit would decrease. The closed-form solution to optimally redesigned contract parameters does not exist and had to be obtained by empirical estimation of the model primitives and simulation. In the empirical part of the reserach we used contract settlement data from five different broiler production contracts from a major broiler company in the U.S. The empirical analysis involves three steps. First, we estimate grower's time-invariant abilities and variances of common shocks and idiosyncratic shocks by estimating an unbalanced two-way fixed effects model. Second, growers' optimal effort responses under different tournament slope parameters are simulated to see how changing incentives influence optimal growers' efforts. Finally, the welfare impacts of the proposed regulation are calculated for both parties to the contract. The simulation results show that the principal can partially offset the negative welfare impacts of the payment truncation through changing contract parameters and the expected short-run welfare gain for growers will be significantly diminished. The proposed policy will also have unanticipated distributional effects in the sense that only low and high ability growers are expected to benefit, whereas average ability growers are likely to lose.

Publications

• Type: Journal Articles Status: Published Year Published: 2017 Citation: Wang, Z. and T. Vukina. Welfare Effects of Payment Truncation in Piece Rate Tournaments. Journal of Economics 120 (2017): 219-249.
• Type: Conference Papers and Presentations Status: Published Year Published: 2017 Citation: Oh, E., S. and T. Vukina. Substitutability between Organic and Conventional Poultry Products and Organic Price Premiums. Conference Proceedings, International Food Marketing Research Symposium, June 14-16, 2017; Dubrovnik, Croatia.
• Type: Conference Papers and Presentations Status: Submitted Year Published: 2017 Citation: Wang, Z. and T. Vukina. Sorting into Contests: Evidence from Production Contracts. Society of Labor Economists Conference 2017, Raleigh, NC, May 5-6, 2017.