2. Systematic Prisoner Execution - Ransom refusal
....my AI often refuses to buy prisoners, and has sometimes denied me the chance to ransom my own men! Indeed, the screen simply never appears!
Nonetheless, as you mention there are disadvantages for both mercy and cold-blooded murder.
With the use of mercy, one receives money and can in fact witness civil war within the enemy, but also returns a considerable part of their military to them at times. When one is cold-blooded, the general starts on a road to moral loss within the army, he is denied ransom money, the chance of starting a civil-war, and also he frees the enemy revenue for the maintainence of new troops.
There are circumstance fair for both decisions, and the AI is given the same choice apparently.