Repeated -transactions bargaining with two -sided uncertainty

Darryl T Banks, University of Pennsylvania


Buyers' responses to prices seem to be affected by their beliefs about sellers' costs. While at odds with the usual view of the buyer, this behavior is shown to be economically rational by this study. I model the buyer-seller relationship as a dynamic game of two-sided incomplete information and derive the following equilibrium results. (1) When the buyer thinks it likely that the seller's cost is low, he is willing to reject any but very attractive, i.e., low, prices. This willingness threatens the seller with opportunity costs, causing her to set lower prices than she otherwise would. The buyer's surplus is, thus, larger than it would be without the strategy, so the strategy pays off for the buyer. (2) The buyer's willingness to reject high prices is more effective at inducing the seller to offer lower prices when the seller believes it likely that the buyer's reservation value is low. (3) Since delayed consumption (as opposed to immediate consumption) imposes relatively low opportunity costs when the discount rate is low, the lower is the discount rate the more likely is the buyer to be willing to refuse the seller's terms and, in general, the lower are the seller's prices. (4) The longer a buyer whose reservation value is high can keep the seller unaware of this fact, the longer he gets to enjoy lower prices than would be set if the seller knew the truth. As a result, the longer the relationship, the more likely is the buyer to reject prices that would reveal to the seller that his reservation value is high. Data from a laboratory test of these results provide directional support for the theory's qualitative predictions. The theory's point predictions were not supported. The deviations were caused by buyers refusing prices they would have accepted if, as assumed, they were income maximizers playing games that gave them no opportunities to establish reputations across interactions. The data suggest that they saw opportunities to establish reputations that would affect play across interactions.

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Recommended Citation

Banks, Darryl T, "Repeated -transactions bargaining with two -sided uncertainty" (2006). Dissertations available from ProQuest. AAI3225428.