Working Paper: NBER ID: w21005
Authors: Maija Halonen-Akatwijuka; Oliver Hart
Abstract: Parties often regulate their relationships through “continuing” contracts that are neither long-term nor short-term but usually roll over. We study the trade-off between long-term, short-term, and continuing contracts in a two period model where gains from trade exist in the first period, and may or may not exist in the second period. A long-term contract that mandates trade in both periods is disadvantageous since renegotiation is required if there are no gains from trade in the second period. A short-term contract is disadvantageous since a new contract must be negotiated if gains from trade exist in the second period. A continuing contract can be better. In a continuing contract there is no obligation to trade in the second period but if there are gains from trade the parties will bargain “in good faith” using the first period contract as a reference point. This can reduce the cost of negotiating the next contract. Continuing contracts are not a panacea, however, since good faith bargaining may preclude the use of outside options in the bargaining process and as a result parties will sometimes fail to trade when this is efficient.
Keywords: No keywords provided
JEL Codes: D23; D86; K12
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| long-term contract (L14) | negotiation costs (C78) |
| short-term contract (M55) | negotiation costs (C78) |
| continuing contracts (D86) | negotiation costs (C78) |
| continuing contracts (D86) | outside options (C79) |
| likelihood of trade efficiency (F14) | optimal choice between contract types (D86) |