Victor Augias (Sciences Po) 18.01.2023

We study how to optimally design non-market mechanisms for allocating scarce resources, taking into consideration agents' investment incentives. A principal wishes to allocate a resource of homogeneous quality, such as seats in a university, to a heterogeneous population of agents. She commits ex-ante to a possibly random allocation rule, contingent on a unidimensional characteristic of the agents she intrinsically values. The principal cannot resort to monetary transfers. Agents have a strict preference for allocation and can undertake a costly investment to improve their characteristic before it is revealed to the principal. We show that while random allocation rules have the effect of encouraging investment, especially at the top of the characteristic distribution, deterministic pass-fail allocation rules, such as exams with a pass grade, prove to be optimal.