Sequential Procurement with Contractual and Experimental Learning

93 Pages Posted: 13 Mar 2019 Last revised: 9 Jul 2019

See all articles by Yonatan Gur

Yonatan Gur

Stanford Graduate School of Business

Gregory Macnamara

Stanford Graduate School of Business

Daniela Saban

Stanford Graduate School of Business

Date Written: February 21, 2019

Abstract

We study the design of sequential procurement strategies that integrate stochastic and strategic information. We consider a buyer who repeatedly demands a certain good and is unable to commit to long-term contracts. In each time period, the buyer makes a price offer to a seller who has private, persistent information regarding his cost and quality of provision. If the offer is accepted, the seller provides the good with a stochastic quality that is not contractible; otherwise, the buyer sources the good from a known outside option. The buyer can therefore learn from the (strategic) acceptance decisions taken by the seller, and from evaluations of the (stochastic) quality delivered whenever a purchase occurs. Hence, the buyer not only faces a tradeoff between exploration and exploitation, but also needs to decide how to explore: by facilitating quality observations, or by strategically separating seller types. We characterize the Perfect Bayesian Equilibria of this sequential interaction and show that the buyer's equilibrium strategy consists of a dynamic sequence of thresholds on her belief on the seller's type. In equilibrium, the buyer offers high prices that incentivize trade and quality experimentation at early stages of the interaction and, after gathering enough information (and if her belief is sufficiently low), she advances to offering low prices that may partially separate seller types. Contrasting the buyer's strategy with two benchmark strategies designed to learn from each form of information in isolation, we identify the effect that strategic sellers may have on the buyer's optimal strategy relative to more traditional learning dynamics, and establish that, paradoxically, when sellers are strategic, the ability to observe delivered quality is not always beneficial for the buyer.

Keywords: dynamic contracts, procurement, incomplete information, quality experimentation, learning, perfect Bayesian equilibrium, Gittins index

JEL Classification: D82, D83

Suggested Citation

Gur, Yonatan and Macnamara, Gregory and Saban, Daniela, Sequential Procurement with Contractual and Experimental Learning (February 21, 2019). Stanford University Graduate School of Business Research Paper No. 19-17. Available at SSRN: https://ssrn.com/abstract=3337962 or http://dx.doi.org/10.2139/ssrn.3337962

Yonatan Gur

Stanford Graduate School of Business ( email )

655 Knight Way
Stanford, CA 94305-5015
United States

Gregory Macnamara (Contact Author)

Stanford Graduate School of Business ( email )

655 Knight Way
Stanford, CA 94305-5015
United States

Daniela Saban

Stanford Graduate School of Business ( email )

655 Knight Way
Stanford, CA 94305-5015
United States

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