Contracting under Asymmetric Information and Externalities: An Experimental Study

Experimental Economics, Forthcoming

72 Pages Posted: 30 Oct 2023 Last revised: 2 Nov 2023

See all articles by Petra Nieken

Petra Nieken

Karlsruhe Institute of Technology

Patrick W. Schmitz

University of Cologne; Centre for Economic Policy Research (CEPR)

Multiple version iconThere are 2 versions of this paper

Date Written: 2023

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 that has a positive external effect on player B. However, 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. However, 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 ultimatum-game bargaining as well as in unstructured bargaining with free-form communication.

Keywords: contracts, externalities, bargaining, communication, laboratory experiments

JEL Classification: D86, D82, D62, C78, C92

Suggested Citation

Nieken, Petra and Schmitz, Patrick W., Contracting under Asymmetric Information and Externalities: An Experimental Study ( 2023). Experimental Economics, Forthcoming, Available at SSRN: https://ssrn.com/abstract=4577020 or http://dx.doi.org/10.2139/ssrn.4577020

Petra Nieken

Karlsruhe Institute of Technology ( email )

Kaiserstraße 12
Karlsruhe, Baden Württemberg 76131
Germany

Patrick W. Schmitz (Contact Author)

University of Cologne ( email )

Albertus-Magnus-Platz
Cologne, 50923
Germany

HOME PAGE: http://schmitz.uni-koeln.de/index.php?s=mitarbeiter&t=schmitz

Centre for Economic Policy Research (CEPR)

London
United Kingdom

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