Business Economics and Public Policy Papers

Document Type

Journal Article

Date of this Version

1-2012

Publication Source

Management Science

Volume

58

Issue

1

Start Page

62

Last Page

77

DOI

10.1287/mnsc.1110.1341

Abstract

We argue that contracts establish the norms of a relationship and that individuals incur disutility when deviating from these norms. In a laboratory experiment, we allow agents to make simple contracts before they play one of four games, and the most effective contract always includes an unenforceable “handshake” agreement to take the first-best action. In three games, a contract with only this handshake agreement is (at least weakly) optimal. The handshake is particularly effective in games with strategic complements. Our results highlight an explanation for contractual incompleteness: establishing a norm can effectively substitute for weak enforceable restrictions.

Keywords

experiment, norms, incomplete contracts

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Date Posted: 27 November 2017

This document has been peer reviewed.