Trust, but Verify? Monitoring, Inspection Costs, and Opportunism Under Limited Observability

Posted: 31 Jan 2019

See all articles by Timo Goeschl

Timo Goeschl

University of Heidelberg - Alfred Weber Institute for Economics

Johannes Jarke-Neuert

University of Hamburg - Department of Socioeconomics

Date Written: August 12, 2017

Abstract

Is feedback on trustworthiness necessary for the functioning of economic relationships? In many real-world economic environments, such feedback can at best be acquired through costly monitoring, raising questions of how trust and efficiency can be maintained. In the lab, we conduct a modified finite-horizon binary trust game in which we vary the observability of the trustee's actions. In the baseline condition, trustors can perfectly observe their trustee's actions. We compare this to a condition in which that actions are unobservable and three conditions in which they must be actively monitored, at zero, low or high cost, respectively. Counter-intuitively, differences in observability do not lead to significant differences in trust and efficiency, but the levels are supported by very different information structures: while trustors monitored every action under zero observation costs, most of trusting actions were “blind” – trustors did not learn whether their trust was honored or not – under costly monitoring. Even under complete unobservability almost half of the available surplus was realized. There are distributive impacts, however: the gains from trust favor trustees under the more adverse informational conditions. The behavioral patterns are consistent with the fact that trustors’ beliefs about their trustee's conduct are almost invariant across conditions.

Keywords: Trust, Laboratory Experiment, Monitoring, Repeated Game, Social Dilemma, Cooperation

JEL Classification: C72, C91, D02, D82, D91

Suggested Citation

Goeschl, Timo and Jarke-Neuert, Johannes, Trust, but Verify? Monitoring, Inspection Costs, and Opportunism Under Limited Observability (August 12, 2017). Journal of Economic Behavior and Organization, Vol. 142, 2017, Available at SSRN: https://ssrn.com/abstract=3321664

Timo Goeschl

University of Heidelberg - Alfred Weber Institute for Economics ( email )

Bergheimer Str. 20
D-69115 Heidelberg
Germany

Johannes Jarke-Neuert (Contact Author)

University of Hamburg - Department of Socioeconomics ( email )

Welckerstrasse 8
Hamburg, Hamburg D-20354
Germany

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