Fragile Markets: An Experiment on Judicial Independence
Universitat Pompeu Fabra, Economics and Business Working Paper No. 1031
35 Pages Posted: 1 May 2007 Last revised: 13 Aug 2016
Date Written: May 27, 2016
Contract enforcement does not only affect single transactions but the market as a whole. We compare alternative institutions that allocate enforcement rights to the different parties to a credit transaction: either lenders, borrowers, or judges. Despite all parties having incentives to enforce and transact, the market flourishes or disappears depending on the treatment: paying judges according to lenders’ votes maximizes total surplus and equity; and a similar result appears when judges are paid according to average earnings in society. In contrast, paying judges according to borrowers’ votes generates the poorest and most unequal society. These results suggest that parties playing the role of borrowers understand poorly the systemic consequences of their decisions, triggering under-enforcement, and hence wasting profitable trade opportunities.
Keywords: Impersonal exchange, third-party enforcement, experiments, steps of reasoning, judges' incentives, repeated interaction
JEL Classification: C91, C92, D63, D72, K40
Suggested Citation: Suggested Citation