Durable Goods and Moral Hazard: An Option to Implement the First Best

A monopolist selling a durable good cannot extract the whole amount of monopoly rents from consumers each period. This inefficiency is due to the incompleteness of contracts: The monopolist cannot credibly commit not to lower the price in future periods. By using leasing contracts however the monopolist can solve this credibility problem, but then he is exposed to inefficiencies due to moral hazard. This leads many authors in the Durable Goods Literature to rule out leasing contracts. This paper's contribution is to show the invalidity of the moral hazard argument by using leasing contracts that include an option to buy the good. The kind of contract we propose has neither been considered in the Durable Goods Literature, nor in the Incomplete Contracts Approach so far.