Martin P. Loeb
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Deloitte & Touche Faculty Fellow
Van Munching Hall 3351
Robert H. Smith School of Business
The University of Maryland
College Park, MD 20742, USA
Phone: (301) 405-2209

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Book

Managing Cybersecurity Resources: A Cost-Benefit Analysis

MECHANISM DESIGN,

VCG MECHANISMS AND INCENTIVE REGULATION

This paper proposes and anlayzes a mechanism (which has been subsequently referred to as the Groves mechanism, the Groves-Loeb scheme, the demand-revealing mechanism, and the Vickery-Clarke-Groves, or merely, VCG mechanism) to coordinate the decision to provide a public input to a group of firms designed to overcome the free-rider problem. The coordinating agent relies on information communicated by the firms and it is shown that the mechanism provides an incentive for each firm to send truthful information so that an optimal quantity of the public input will be provided.

The informational incentive properties of a scheme proposed by Ronen to ensure efficient allocations in the presence of interfirm externalities are examined. While sending accurate information is a non-cooperative (Nash) equilibrium in the game defined by Ronen's scheme, it is not the only such equilibrium. Others such that all firms are better off and such that inefficient allocations result also exist. We show that under a scheme we proposed elsewhere, such possibilities are eliminated. Our scheme is similar to Ronen's, but differs in two essential respects detailed in the paper.

  • Loeb, Martin and Wesley A. Magat, ¡§Success Indicators in the Soviet Union: The Problem of Incentives and Efficient Allocations,¡¨ American Economic Review, March 1978, pp. 173-181.

In this paper, it is shown that the set of success indicators proposed by Ellman (1971), Fan (1975), and Weitzman (1976) is actually the subset of one another. Specifically, the set of Fan success indicators is a subset of the Ellman indicators, which in turn comprise a subset of the Weitzman indicators. The paper then shows that using the success indicators studied by Fan, Ellman, and Weitzman, enterprises can individually gain by transmitting inaccurate forecasts, to the detriment of society as a whole. This undesirable incentive property comes from the failure to explain how the Central Planning Bureau (CPB) uses the forecast submitted by enterprises in their model. The model proposed in this paper corrects this failure. It recognizes that the CPB uses forecasts to make allocations and allow enterprises to take this knowledge into account when sending forecast to the CPB. The new success indicator presented could motivate accurate forecasts and efficient behavior.

  • Loeb, Martin, ¡§Alternative Versions of the Demand-Revealing Process,¡¨ Public Choice, Spring 1977, pp. 15-26.

The paper unifies the various approaches to the demand-revealing process. The versions of Clarke, Groves and Loeb (1975), and Groves and Ledyard (1977) focus on the free-rider problem for public goods. Earlier papers of Vickrey (1961) and Groves (1973) apply the demand-revealing process to the allocation of private goods. Tideman and Tullock (1976) discuss applications to voting problems as well as applications designed for allocating public goods. Groves (1976) deals with the problem of interfirm externalities and Loeb (1975) suggests the use of a demand-revealing process for control in large organizations. In this paper, the essential features of all the versions are examined.

This paper was among the first to apply the mechanism design approach to problems of coordinating and controlling divisions of a large firm. The model explicitly considers incentive compatibility issues in applying the mechanism presented in Groves and Loeb (1975) to problems of internal allocation of resources. With the proposed evaluation measure, each division manager is rewarded on the basis of the division¡¦s contribution to overall profits. If the division¡¦s message to the center has no impact on the center¡¦s coordinating decisions, then the manager is evaluated on the basis of the division¡¦s realized profits. If the division¡¦s message changes the coordinating decision, then the manager is evaluated on the basis of the division¡¦s realized profits less the reported impact of the change in the coordinating decisions (resulting from the message) on the profits of the other divisions.

  • Loeb, Martin and Wesley A. Magat, ¡§A Decentralized Method of Utility Regulation,¡¨ Journal of Law and Economics, October 1979, pp. 399-404.

This paper uses the mechanism design approach to examine the problem of utility regulation. A new institutional arrangement that mixes regulation and franchising is proposed. Under the proposed system, the utility chooses its own price and the regulatory agency subsidizes the utility on a per unit basis equal to the consumer surplus at the selected price. Such system not only solves the allocative efficiency problem, but also encourages efficient operation. The most distinguishable feature of the present system perhaps is that it requires no action by the regulatory agency if underlying cost conditions change. While both rate-of-return regulation and a franchise arrangement would require action from a regulatory or administrative agency if underlying cost conditions change, the price-setting decentralization system proposed here could help avoid such action from regulatory agency so as to reduce regulatory lag.

Considered in this paper is the problem of intrafirm resource allocation. The Groves scheme has been presented in the literature (e.g., Groves and Loeb, 1979) as a way of dealing with intrafirm resource allocation decisions within a model that explicitly recognizes asymmetric information, but does not explicitly consider the moral hazard problem. The analysis in this paper allows for the problem of moral hazard (effort aversion) as well as the problem of asymmetric information and shows that for a deterministic case in which the headquarters seeks to maximize a measure of total profits gross of divisional rewards, a reinterpreted Groves scheme will yield a dominant equilibrium. At this equilibrium, the headquarters implicitly considers the division manager's effort levels as a cost to the firm. Properties of profit sharing are also examined.

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