THE HIDDEN COST OF BARGAINING: EVIDENCE FROM A CHEATING‐PRONE MARKETPLACE

• Author: Subhasish Dugar,Haimanti Bhattacharya
• Published date: 01 August 2020
• Date: 01 August 2020
• DOI: http://doi.org/10.1111/iere.12456

INTERNATIONAL ECONOMIC REVIEW

Vol. 61, No. 3, August 2020 DOI: 10.1111/iere.12456

THE HIDDEN COST OF BARGAINING: EVIDENCE FROM A CHEATING-PRONE

MARKETPLACE∗

BYHAIMANTI BHATTACHARYA AND SUBHASISH DUGAR1

University of Utah, U.S.A.

It is widely believed that successful bargaining helps consumers increase their surplus. We present evidence

from a field experiment showing that bargaining over price reduces buyer surplus in a marketplace where sellers

cheat on the weight whose value may more than offset the price discount. Our results show that bargaining entails

hidden costs since sellers cheat significantly more when buyers bargain than not and they cheat significantly more

when bargaining succeeds than fails. Overall bargaining reduces buyer surplus than not bargaining. Our result

is relevant for credence goods markets where bargaining over prices may induce sellers to “undertreat” more.

1. INTRODUCTION

Bargaining for a better price is second nature to humans and a global phenomenon. It is

observed not only in most markets of the developing world, but also in the developed world

like the United States (Sharma and Krishnan, 2001; Johnson, 2008; Gillison et al., 2014).2

Scholars in marketing (Jackson, 1985; Kassaye, 1990; Lewicki et al., 1998, 2015) contend that

the principal motive behind why people bargain is to increase their surplus.3This view is

consistent with a fundamental assumption in bargaining theories in the economics literature

(Nash, 1950; Rubinstein, 1982)—the individual rationality constraint—regularly invoked to

ensure that agents’ payoff from bargaining is at least as high as the payoff from not bargaining.

Over the past decades, a large and rich literature in economics has examined various aspects of

bargaining in theory and in laboratory experiments. However, little evidence has been presented

as to whether successful bargaining agreements actually convert into strict financial gains for

buyers in real-life markets.

∗Manuscript received September 2018; revised February 2020.

1We are grateful to three anonymous referees and the editor, Masaki Aoyagi, for their valuable comments that vastly

helped improve the article. We would also like to thank Gabriel Lozada and the participants of the ULEEF meetings at

the University of Utah. The usual disclaimer applies. Please address correspondence to: Subhasish Dugar, Department

of Economics, University of Utah, 260 S. Central Campus Drive, Garden Commons, Room 4039, Salt Lake City, UT

84112. Phone: +1 801 585 1294. E-mail: subhasish.dugar@economics.utah.edu.

2The May 2009 edition of Consumer Reports informs that 66% of Americans had attempted to negotiate a better deal

within a six-month period. The August 2013 edition of the same outlet surveyed 2000 U.S. adults and found that 89%

of those who haggled were rewarded at least once. Sharma and Krishnan (2001) claim that bargaining in the United

States occurs on products ranging from everyday small-value items like groceries to many high-value transactions like

homes, new and used cars, antiques,etc.

3Marketing literature also acknowledges other reasons that motivate people to bargain (see Kassaye, 1990, for an

early entry): achieve autonomy in price setting process (Chandran and Morwitz, 2005), accumulate experience (Oliver

and Swan, 1989; Syzmanski, 2001), for having coupon proneness (Lichtenstein etal., 1990), derive pleasure from the

act itself (Arnold and Reynolds, 2003), among others. Economists, by contrast, view bargaining mainly as a process

by which multiple parties arrive at a mutually profitable agreement on the provisions of a contract (Schelling, 1956;

Marshall, 1920; Muthoo, 2002; MacLeod, 2007). Economists study, both theoretically and experimentally, issues such as

the sources of players’ bargaining power, players’ preferences, nature of moves, and other frictions that affect players’

bargaining power. These factors may help or hinder the achievement of efficient bargaining outcomes (i.e., immediate

acceptance of offers and, therefore, no delay) in contexts such as buyer-seller negotiations over price, wage negotiations,

plaintiff vs. defendant in legal settlements, negotiations among countries on matters of trade and environment, etc. See

Muthoo (1999) for many other real worldapplications.

1253

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(2020) by the Economics Department of the University of Pennsylvania and the Osaka University Institute of Social

and Economic Research Association

1254 BHATTACHARYA AND DUGAR

To the best of our knowledge, this is the first study to conduct a controlled natural field

experiment to examine whether successful negotiations by buyers for a lower price necessarily

translate into higher buyer surplus in a marketplace that is fraught with contractual breaches.

Specifically, we approach a large and established decentralized marketplace—fish markets in

Kolkata, India—where prices are set by face-to-face negotiations; sellers often cheat on the

provisions of a contract reached via bilateral bargaining (i.e., cheat on the weight of the fish

purchased at a mutually agreed-upon price); it is rather difficult to enforce a contract due to

lack of both formal (regulations) and informal (monitoring) enforcement mechanisms; and it is

hard to verify a contractual breach due to its subtle nature.

Within such a setting where the provisions of bilateral bargaining agreements are subject

to breaches facilitated by a deficit of contract-enforcing systems, we find that sellers cheat

significantly more when buyers bargain (irrespective of the final outcome of bargaining) than

when they do not bargain. More strikingly, sellers cheat strictly more when they agree to

sell at a discounted price than when they do not. Therefore, when bargaining succeeds, the

pecuniary cost (i.e., the monetary value of the cheated quantity) incurred by the cheated buyers

exceeds the gain made from bargaining.4Thus, attempts to land a good deal backfire for buyers

and more so in case of a seemingly “good deal” (bargain success) than “no deal” (bargain

failure). We argue that the cost incurred by the buyers due to bargaining is hidden in the sense

that this cost might be escaping buyers’ attention since they fail to realize that haggling over

prices escalates fraud and consequently lowers their surplus. Our results are important because

bargaining is a common phenomenon and successful price negotiations may create an on-the-

surface impression of getting a “good deal,” while certain market conditions may facilitate fraud

which can more than offset the gain from bargaining, thus leaving the buyer with a surplus that

is strictly lower than the one without bargaining.

Our main result that bargaining backfires as a surplus-increasing strategy for buyers is gen-

eralizable to an array of real-world markets. The key characteristics of our marketplace are

that bargaining is possible and that fraud which emerges along the quantity dimension cannot

be verified or detected because of the subtle nature of the fraud and also because of high, if

not prohibitive, cost of verifying that the fraud occurred. We argue that these characteristics

apply to a broad set of markets in developing economies where contract enforcement is rather

weak. For example, Ellis (1982) and Gabre-Madhin (2001) document that cheating on quantity

is prevalent in Ethiopian grains markets where bargaining is also common; Pableo and Ignacio

(1987) document that cheating on weights is a serious problem in groundnut markets in the

Philippines. However, these studies do not examine the effect of bargaining on cheating behav-

ior. It is important to note that the lack of contract-enforcing mechanisms is not an absolute

necessity for our research question to gain practical importance in other markets. Qualitatively,

similar outcomes might also be obtained in markets where contract-enforcing mechanisms might

work fine, but different types of market frictions (e.g., information asymmetry) may give rise to

fraud, albeit along the quality dimension.

Specifically, our research is relevant for many everyday credence goods markets (Darby and

Karni, 1973) such as automobile, bike and boat repairs, home heating, plumbing, and roofing

work markets where bargaining is fairly commonplace (Dulleck and Kerschbamer, 2006) and

fraud such as undertreatment (delivering a quality that is insufficient to satisfy the consumer’s

needs) emerges along the quality dimension because consumers in these markets often do not

know what level of service they need and cannot ascertain the quality of the received service

due to the lack of expert knowledge (i.e., information asymmetry). Furthermore, the cost of

4The buyers in our markets may be aware of the potential of cheating, but due to the subtle nature of the fraudulent

activity it may not be immediately clear to them if there was a breach. Even if a buyer could detect such a breach,

the buyer may decide not to enforce the contract since the expected cost of pursuing a lawsuit far exceeds the benefits

from it. Costs of writing a complete contract can also be prohibitive. While reputational concerns may be thought to

discipline the cheating-seller, such a mechanism is almost absent in our markets due to the nonobservability of the

contractviolation.