On the Hidden Costs of Monitoring Corruption or Effort

In this paper, I analyze the effects of monitoring on an agent’s incentives in a two-period principal-agent model in which the agent decides on his effort and corruptibility. The agent’s type and strategy are unknown to the principal. I compare incentive-compatible wages under three different scenarios: when the principal does not monitor and only observes output; when she monitors the agent’s effort choice; and when she monitors the agent’s corruptibility. I find that monitoring of effort improves the sorting of types but it might also give the agent more incentive to be corrupt. Monitoring of corruption does not improve the sorting of types but it negatively affects the agent’s incentive to be corrupt.