Information extraction and norms of mutual protection

We study a class of moral hazard economies in which a principal interacts with several agents. In these economies first best allocations can be implemented via full information extraction when side-trades between agents can be restricted. When instead side-trades cannot be restricted, the ability of the principal to extract information from the agents is severely hampered. In this context, side-trades take the form of informal contracts which can be directly interpreted as norms of mutual protection, which are indeed quite common among extended family members as well as inside various social, political, and religious groups.

► We study a moral hazard model with groups of agents.
► With no side-trades, first best is reached via full information extraction.
► Norms of mutual protection act like informal contracts generating side-trades.
► By penalizing informants, they prevent efficient information extraction and effort.
► Such norms are common and can be sustained noncooperatively with no collusion.