Working Paper: CEPR ID: DP15492
Authors: Petra Nieken; Patrick W. Schmitz
Abstract: We investigate contract negotiations in the presence of externalities and asymmetric information in a controlled laboratory experiment. In our setup, it is commonly known that it is always ex post efficient for player A to implement a project which has an external effect on player B. Yet, player A has private information about whether or not it is in player A's self-interest to implement the project even when no agreement with player B is reached. Theoretically, an ex post efficient agreement can always be reached if the externality is large, whereas this is not the case if the externality is small. We vary the size of the externality and the bargaining process. The experimental results are broadly in line with the theoretical predictions. Yet, even when the externality is large, the players fail to achieve ex post efficiency in a substantial fraction of the observations. This finding holds in the case of ultimatum game bargaining as well as in the case of unstructured bargaining with free-form communication.
Keywords: contracts; externalities; bargaining; communication; laboratory experiments
JEL Codes: D86; D82; D62; C78; C92
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| player behavior (C72) | likelihood of project implementation (O22) |
| size of externality (D62) | likelihood of project implementation (O22) |
| negotiation protocol (C78) | likelihood of project implementation (O22) |