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Does the Fundamental Transformation Deter Trade? An Experiment

Author

Listed:
  • Christoph Engel

    (Max Planck Institute for Research on Collective Goods)

  • Eric Helland

    (Claremont McKenna College)

Abstract
Oliver Williamson has coined the term “fundamental transformation”. It captures the following situation: before they strike a deal, buyer and seller are protected by competition. Yet thereafter they find themselves in a bilateral monopoly. With common knowledge of standard preferences, both sides conclude the contract regardless if its expected value exceeds their outside options. We run an experiment to test whether additional behavioral reasons deter mutually beneficial trade. If the risk materializes, another individual makes a windfall profit. She does so by intentionally exploiting the first individual. The first individual is let down, although she has knowingly exposed herself to this risk. Participants sell the opportunity to enter the contractual relationship at a price below its expected value. This effect is driven by risk aversion, and already present if the risk is stochastic. Behavioral effects are heterogeneous. About a quarter of participants exhibit the hypothesized additional deterrent effect.

Suggested Citation

  • Christoph Engel & Eric Helland, 2020. "Does the Fundamental Transformation Deter Trade? An Experiment," Discussion Paper Series of the Max Planck Institute for Research on Collective Goods 2020_23, Max Planck Institute for Research on Collective Goods.
  • Handle: RePEc:mpg:wpaper:2020_23
    as

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    File URL: http://www.coll.mpg.de/pdf_dat/2020_23online.pdf
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    References listed on IDEAS

    as
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    More about this item

    Keywords

    fundamental transformation; bilateral monopoly; sunk cost; Oliver Williamson; windfall profit; exploitation; let down aversion;
    All these keywords.

    JEL classification:

    • B21 - Schools of Economic Thought and Methodology - - History of Economic Thought since 1925 - - - Microeconomics
    • C91 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Individual Behavior
    • D22 - Microeconomics - - Production and Organizations - - - Firm Behavior: Empirical Analysis
    • D43 - Microeconomics - - Market Structure, Pricing, and Design - - - Oligopoly and Other Forms of Market Imperfection
    • K12 - Law and Economics - - Basic Areas of Law - - - Contract Law
    • L12 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Monopoly; Monopolization Strategies
    • L14 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Transactional Relationships; Contracts and Reputation

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