Signaling in the ‘Before’ Model of Final Offer Arbitration

47 Pages Posted: 14 Feb 2021

See all articles by Amy Farmer

Amy Farmer

University of Arkansas - Department of Economics

Paul Pecorino

University of Alabama - Department of Economics, Finance and Legal Studies

Date Written: February 1, 2021

Abstract

We develop a signaling model of final offer arbitration (FOA) in which the informed party makes the final settlement demand to the uninformed party. In FOA, each party submits a proposal to an arbitrator and if no agreement is reached, the arbitrator must select one of the two submitted proposals. We analyze a “before” model of FOA in which all settlement activity occurs prior to the exchange of proposals. We characterize the pure strategy separating, equilibrium associated with this game. Relative to a model of conventional arbitration (CA), the pure strategy separating equilibrium is associated with a higher dispute rate because weak player types have an enhanced incentive to bluff in this setting. This result continues to hold in semi-pooling equilibria. Thus our model is consistent with a higher dispute rate in FOA compared to CA. Results on the incentive to engage in costly voluntary disclosure are mixed across the two models. In contrast with CA, costly discovery can occur in this model of FOA. The analysis of out of equilibrium beliefs and actions is considerably more complex than in the standard litigation model.

Keywords: Final Offer Arbitration, Signaling Model, Disclosure, Discovery

JEL Classification: D82, J52, K41

Suggested Citation

Farmer, Amy and Pecorino, Paul, Signaling in the ‘Before’ Model of Final Offer Arbitration (February 1, 2021). Available at SSRN: https://ssrn.com/abstract=3777533 or http://dx.doi.org/10.2139/ssrn.3777533

Amy Farmer

University of Arkansas - Department of Economics ( email )

Fayetteville, AR 72701
United States
501-575-6093 (Phone)
501-575-3241 (Fax)

Paul Pecorino (Contact Author)

University of Alabama - Department of Economics, Finance and Legal Studies ( email )

P.O. Box 870244
Tuscaloosa, AL 35487
United States
205-348-0379 (Phone)
205-348-0590 (Fax)

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