The Causes of Bargaining Failure: Evidence from Major League Baseball

Abstract

Much of the law and economics literature, including Bebchuk (1984) and Reinganum and Wilde (1986), explains settlement failure in bargaining as a consequence of asymmetric information. An alternative, non-strategic explanation found in Shavell (1982) suggests that settlement failure stems from excessive optimism. Final offer arbitration (FOA) in major league baseball provides an ideal setting for analyzing these theories since final offers, salaries and player statistics, which provide the fundamental facts for the case, are all readily available. If the informational theory is correct, final offer bidding behavior that appears aggressive should be associated with a superior outcome for the party making the offer. If the optimism theory is correct, an aggressive offer reflects undue optimism and should lead to an inferior final outcome for the party making the offer. Using data from 1990-93, we find strong evidence that arbitration stems from excessive optimism by players, and weaker evidence that clubs also exhibit excessive optimism. Excessive optimism appears to be more prevalent for those who lack previous experience with the arbitration process than for those who have previously been eligible.

JEL Classification: K4, J52, D82, C7