trade-off between the quality of a good and the quantity produced, little attention has
been paid to their role in the principal-agent models. And in the standard vertical-
product-differentiation models in which quantity and quality have been analyzed (for
example, Gabszewicz and Thisse, 1979, 1980; Shaked and Sutton, 1982, 1983), it is
implicitly assumed that these variables are independent choices. That is, as any set level
of quality, a grower is free to produce as much as is desires. But in practice, it is more
realistic to assume that higher quality comes at the cost of lower yields and vice versa.
An exception is McCannon (2008), who pioneered a vertical-product-differentiation
model to analyze the trade-off between the quality of a good and the quantity produced.
Likewise, market prices are higher for high-quality than for lower quality product, but
they are inversely related with the total market supply. However, often the models do
not consider both issues to determine the price market. Why models have not included
the previous aspects is likely attributable to analytical problems.
To fill these gaps, we develop a more general principal-agent model and then we use
it to analyse the effects of the incentive contract and the spot market on quantity and
quality. We generalize the models by considering the effect of the quality-quantity
trade-off and competition.
Using this generalized model, we carry out a simulation exercise, and find that the
study of the competence and the quality-quantity trade-off is fundamental to
understanding the effects of governance mechanisms. Depending on the characteristics
of the relationship involved, the incentive contract can provide a greater level of quality
than the spot market but with a smaller level of efficiency. Hence, it would suggest that
the actual contracts in use could be not optimal, although they provide greater levels of
quality than the spot market. That is, processors could be not acting optimally. While
such a result is apparent in the intuitions underlying many earlier papers (for example,