2012 Reports

Entrepreneurship, Ambiguity, and the Shape of Innovation Contracts

Amarante, Massimiliano; Ghossoub, Mario; Phelps, Edmund S.

In Amarante, Ghossoub, and Phelps (AGP), we proposed a model of innovation and entrepreneurship where the entrepreneur generates innovation, innovation generates Ambiguity for all economic agents except the entrepreneur, and the financier deals with this Ambiguity through bilateral contracts that we called innovation contracts. Under a requirement on the financier’s ambiguous beliefs, we showed the existence and monotonicity of optimal innovation contracts. Moreover, when the financier is ambiguity-loving in the sense of Schemeidler, we showed that the problem of contracting for innovation under Ambiguity can be reduced to a situation of non-ambiguous but heterogeneous Bayesian beliefs. This is important since the latter situations have been examined by Ghossoub, and the solutions can be characterized in that case. In this paper, we consider a special case of the setting of AGP which will allow us to fully characterize an optimal innovation contract, all the while maintaining a situation where the financier has ambiguous beliefs.