A model of Cooperative Investments with Three Players
We consider a model with three players in which one of them has the possibility to make a relationship-specific investment which produces an innovation. The innovation affects only the payoff of the other two players - hence, a cooperative innovation. We show that, in some cases, the presence of a third player reduces the hold-up problem, but when the competition becomes too fierce it may lead to overinvestment. In contrast to the prevailing literature on contract theory, we show that, even with a cooperative innovation, the possibility to sign a simple (incomplete) contract can still influence the ex-ante incentive to invest. The model is then applied to investigate the separation of regulatory powers where a monopolistic firm can be regulated either by one or two regulators.
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