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The optimal disclosure policy when firms offer implicit contracts

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The observability of history is crucial for the sustenance of implicit (or relational) contracts. When a firm hires a sequence of short-lived workers, turnover adversely affects the observability of history—the old worker may leave the firm before communicating the history to the young. However, turnover can also enhance profits if matching gains can be extracted up front. Disclosure of the workers' productivity information affects turnover by mitigating adverse selection. Thus, the optimal disclosure policy trades off matching efficiency with the sustainability of implicit contracts. I show that (i) opaqueness can be optimal only for firms with moderate reputation concerns, and (ii) an opaque firm's profit may decrease with its reputation concern.
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Document Type: Research Article

Affiliations: Michigan State University;, Email: [email protected]

Publication date: September 1, 2010

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