Date Added: Apr 2010
A "Folk theorem" originating, among others, in the work of Stiglitz maintains that competitive equilibrium are always or "Generically" inefficient. This paper critically reevaluates these claims in the context of a general equilibrium economy with moral hazard. The authors first formalize this folk theorem. Firms offer contracts to workers who choose an effort level that is private information and that affects worker productivity. To clarify the importance of trading in anonymous markets, they introduce a monitoring partition such that employment contracts can specify expenditures over subsets in the partition, but cannot regulate how this expenditure is subdivided among the commodities within a subset.