The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel, 2016

Date01 July 2017
Published date01 July 2017
DOIhttp://doi.org/10.1111/sjoe.12252
Scand. J. of Economics 119(3), 487–488, 2017
DOI: 10.1111/sjoe.12252
The Sveriges Riksbank Prize in Economic
Sciences in Memory of Alfred Nobel, 2016
Press release from the Royal Swedish Academy of Sciences
The Royal Swedish Academy of Sciences has decided to award the Sveriges
Riksbank Prize in Economic Sciences in Memory of Alfred Nobel for
2016 to
Oliver Hart, Harvard University, Cambridge, MA, USA
and
Bengt Holmstr¨
om, Massachusetts Institute of Technology, Cambridge, MA,
USA
“for their contributions to contract theory”
The Long and Short of Contracts
Modern economies are held together by innumerable contracts. The new
theoretical tools created by Oliver Hart and Bengt Holmstr¨
om are valuable
to the understanding of real-life contracts and institutions, as well as to the
potential pitfalls in contract design.
Society’s many contractual relationships include those between share-
holders and top executive management, an insurance company and car
owners, or a public authority and its suppliers. Because such relationships
typically entail conflicts of interest, contracts must be properly designed
to ensure that the parties take mutually beneficial decisions. This year’s
laureates have developed contract theory, which is a comprehensive frame-
work for analyzing many diverse issues in contractual design, such as
performance-based pay for top executives, deductibles and co-pays in in-
surance, and the privatization of public-sector activities.
In the late 1970s, Bengt Holmstr¨
om demonstrated how a principal (e.g.,
a company’s shareholders) should design an optimal contract for an agent
(the company’s CEO), whose action is partly unobserved by the principal.
Holmstr¨
om’s informativeness principle stated precisely how this contract
should link the agent’s pay to performance-relevant information. Using the
basic principal-agent model, he showed how the optimal contract carefully
weighs risks against incentives. In later work, Holmstr¨
om generalized these
results to more realistic settings, namely: when employees are not only
CThe editors of The Scandinavian Journal of Economics 2017.

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