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Relational Adaptation under Reel Authority

Abstract

We study ongoing relationships in which parties must repeatedly tailor decisions to the state of the world, but typically have different preferred decisions. Our theoretical analysis show how relational adaptation (i.e., self-enforcing agreements that facilitate efficient adaptation), combined with formal contracting, induces state-dependent decision-making that improves upon the expected payoffs under either formal contracting or relational contracting alone. Our empirical analysis focuses on formal revenue-sharing contracts between movie distributors and exhibitors that allow the exhibitor wide leeway about whether to show the movie and in what time slots. These formal contracts are often informally renegotiated after the movie has finished its run - i.e., long after any adaptation decisions have been taken by the exhibitor. Our empirical setting is attractive because we observe: (i) the formal revenue-sharing contract terms; (ii) informal renegotiation of the formal contract terms that occur after all decisions have been made; and (iii) proxies for both the state of the world (potential revenues from alternative movies competing for the same time slots) and the adaptation decisions (what movies were actually shown, and in what time slots). Our theoretical and empirical results suggest that formal contracts can be the foundation for informal relationships that achieve efficient adaptation in fluctuating environments.

Type

Working Paper

Author(s)

Daniel Barron, Robert Gibbons, Kevin J. Murphy

Date Published

2016

Citations

Barron, Daniel, Robert Gibbons, and Kevin J. Murphy. 2016. Relational Adaptation under Reel Authority.

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