Emission-reduction contract with cost information asymmetry for emission reduction service providers: Loose or tight

The asymmetry in emission reduction cost information introduces challenges to the supply chain of emission reduction outsourcing. To address this challenge, we construct principal-agent models of a manufacturer and an emission reduction service provider (ERSP), analyze loose two-part tariff and tight equity contracts, and investigate the contract design and decision distortion change of the manufacturer with information disadvantage when the ERSP faces the moral hazard of hiding emission reduction cost information. Results suggest that the manufacturer should adopt a tight equity contract to obtain higher profits in the presence of symmetric information, especially when the proportion of shareholding is high. However, when the shareholding ratio is low, the manufacturer should adopt a loose two-part tariff contract. Low-cost ERSP has more advantages than high-cost ERSP in concluding transactions. Before a deal is reached, the high-cost ERSP is motivated to hide emission reduction cost information to cooperate with the manufacturer. However, after a deal is reached, the low-cost ERSP is motivated to hide emission reduction cost information to gain higher emission reduction benefits. As a result, manufacturers are placed at an information disadvantage, which leads to the decision distortion of the two contracts. In other words, when cooperating with low- or high-cost ERSP and when the proportion of low-cost ERSP is relatively low, the emission reduction price and level are distorted upward. However, when cooperating the high-cost ERSP and when the proportion of low-cost ERSP is relatively high, the emission reduction price and level are distorted downward, and the tight equity contracts emerge as the dominant strategy.