Professor Luke Froeb
Owen Graduate School of Management
Vanderbilt University
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Theory
◦ Multilateral bargaining has multiple cooperative and
non-cooperative solutions
◦ In many of them, the division of the surplus
depends on the concavity of the surplus function
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Traditional Application of Theory
◦ Look for evidence of concavity
◦ Look for evidence that firms act strategically
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Alternative to Reliance on Theory …
◦ Run a laboratory experiment
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Conducted at Vanderbilt’s “eLab”
Participants quizzed to make sure they
understood the rules, then “tripled” up
Structure: Player B bargains with N and X.
Concavity: First agreement is worth $20;
second is worth only $10
Theory: The least core, pre-nucleolus, and
pre-kernel all predict surplus splits of {$20,
$5, $5} for {B, N, X}
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Most triplets used the “chat” box to argue for
a “fair” split of the total surplus
◦ Player B went so far as to “give” Player N or X more
surplus than was generated by second agreement
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A small minority of B players acted
strategically
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Firms do not randomly select individuals to
make important decisions
Organizations design mechanisms to correct
biases they cannot screen for
Firms make decisions within specific industry
contexts (codes, committees, cultures)
Firms adopt heuristics that work well in the
contexts for which they are developed
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Vernon Smith has observed that:
[H]uman subjects in the laboratory frequently violate
the canons of rational choice when tested as isolated
individuals, but in the social context of exchange
institutions serve up decisions that are consistent (as
though by magic) with predictive models based on
individual rationality.
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Predictable consumer irrationality can be
incorporated into demand models
◦ e.g., hyperbolic discounting
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Departing from the assumption of profit
maximization is not (yet?) warranted
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