Reciprocity, Reputation and Performance


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PhD thesis: a PhD thesis.
Reciprocity, Reputation and Performance
Zehnder C.
Fehr E. & Schmutzler A. 
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Universität Zürich
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In this thesis I experimentally show that the presence of people with social preferences significantly affects aggregated outcomes in a number of important economic settings. While the existing literature provides convincing evidence that the decisions of many people are shaped by social considerations, only little is known about the impact of social preferences on market outcomes. I investigate the role of reciprocal agents in three environments that are part of many economists' research agenda: Low wage labor markets, credit markets and markets for experience goods. I do not only provide evidence that social preferences can have a decisive impact on market performance but I also argue that taking into account that some people are motivated by fairness concerns plausibly explains many phenomena that are otherwise considered as puzzles. In Chapter 2 I investigate the economic consequences of minimum wage laws in labor markets with bargaining power of firms. In contrast to prevailing labor market models, I show that fairness considerations may be important determinants of workersâ reservation wages. The introduction of a minimum wage affects the workersâ fairness perceptions and therefore leads to a strong rise in workers' reservation wages. Surprisingly, the high reservation wages persist even after the minimum wage has been removed. Firms are therefore forced to pay higher wages after the removal of the minimum wage than before its introduction. As a consequence, the employment effects of removing the minimum wage are significantly smaller than are the effects of its introduction. The impact of minimum wages on reservation wages may also explain the anomalously low utilization of subminimum wages if employers are given the opportunity of paying less than a minimum wage previously introduced. It may further explain why employers often increase workers' wages after an increase in the minimum wage by an amount exceeding that necessary for compliance with the higher minimum. Chapter 3 examines the behavioral forces behind the formation of credit markets. I find that in a worst-case scenario where neither the repayment of debt nor the project choice of borrowers is enforceable a fraction of borrowers with social preferences alone is not enough to guarantee the existence of a functioning credit market. However, when lenders and borrowers have the possibility to engage in long-term relationships the borrowers' incentive problems are considerably mitigated. By conditioning their contract renewals on past repayment behavior, lenders succeed in motivating selfish borrowers to repay their debt such that mutually beneficial trades can take place. The introduction of third party enforcement of debt repayment generates surprisingly small efficiency gains. This is due to the fact that third party enforcement of debt repayment not only solves the moral hazard problem associated with debt repayment but also exacerbates the moral hazard problem that is associated with project choices. Thus, my findings suggest that social preferences combined with a relational reputation mechanism are a decisive determinant of credit market performance. In chapter 4 I provide experimental evidence for the importance of social preferences and reputation effects in markets with experience goods. In this type of markets high quality cannot be enforced by complete and enforceable contracts. As a consequence there is the danger of low market efficiency due to the sellers' incentives to sell low quality. A potential remedy to overcome these inefficiencies is reputation formation. In order to study the causal effect of reputation formation on market performance I analyze two treatments. In the no reputation treatment reputation formation is ruled out by design. Although some sellers are willing to reciprocate high price offers with high quality, average quality and prices remain rather low in this treatment. In the reputation treatment, buyers exchange information such that previous quality choices of sellers are publicly known. This treatment difference generates vast changes in how markets function. I find that buyers are willing to pay rents to performing sellers. This creates strong incentives for sellers to invest in a good reputation. Thus, selfish sellers mimic reciprocal behavior and provide high qualities. As a consequence a significantly higher market efficiency is reached compared to the market where reputation formation is impossible. Reputation formation also changes the way how trades are initiated and how rents are shared between sellers and buyers.
Create date
29/06/2009 13:29
Last modification date
20/08/2019 15:22
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