The Compromise Game: Two-Sided Adverse Selection in the Laboratory

48 Pages Posted: 14 May 2008

See all articles by Juan D. Carrillo

Juan D. Carrillo

University of Southern California - Department of Economics; Centre for Economic Policy Research (CEPR)

Thomas R. Palfrey

California Institute of Technology - Division of the Humanities and Social Sciences

Multiple version iconThere are 2 versions of this paper

Date Written: February 2007

Abstract

We analyze a game of two-sided private information characterized by extreme adverse selection, and study a special case in the laboratory. Each player has a privately known strength and can decide to fight or compromise. If either chooses to fight, there is a conflict; the stronger player receives a high payoff and the weaker player receives a low payoff. If both choose to compromise, conflict is avoided and each receives an intermediate payoff. The only equilibrium in both the sequential and simultaneous versions of the game is for players to always fight, independent of their own strength. In our experiment, we observe among other things (i) frequent compromise, (ii) little evidence of learning, and (iii) different behaviour between first, second and simultaneous movers. We explore several models in an attempt to understand the reasons underlying these anomalous choices, including quantal response equilibrium, cognitive hierarchy, and cursed equilibrium.

Keywords: Adverse selection, behavioural game theory, laboratory experiment

JEL Classification: O24, O26

Suggested Citation

Carrillo, Juan D. and Palfrey, Thomas R., The Compromise Game: Two-Sided Adverse Selection in the Laboratory (February 2007). CEPR Discussion Paper No. DP6103, Available at SSRN: https://ssrn.com/abstract=1132240

Juan D. Carrillo (Contact Author)

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Thomas R. Palfrey

California Institute of Technology - Division of the Humanities and Social Sciences ( email )

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