Crying Over Spilt Milk: Sunk Costs, Fairness Norms and the Hold-Up Problem*

Jeffrey Carpenter and Peter Matthews

Middlebury College Working Paper Series from Middlebury College, Department of Economics

Abstract: This paper explores a possible connection between two behavioral anomalies in economics, the observed responsiveness of individual decision-makers to sunk costs, and the apparent failure of backward induction to predict outcomes in experimental bargaining games. In particular, we show that under some conditions, a "sunk cost sensitive" fairness norm can evolve in such environments. Under this norm, a fair distribution allows all parties to recoup whatever each has invested in their relationship before the net surplus is then divided into equal shares. The establishment of such a norm would have important consequences for the hold-up problem, which we characterize in terms of ultimatum bargaining in the presence of an outside option. We then conclude with a brief discussion of the possible labor market implications of our results.

Keywords: sunk costs; norms; fairness; trust; hold-up problem; human capital (search for similar items in EconPapers)
JEL-codes: C78 J41 (search for similar items in EconPapers)
Pages: 21 pages
Date: 2003-06
New Economics Papers: this item is included in nep-cbe and nep-exp
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Related works:
Journal Article: Crying Over Spilt Milk: Sunk Costs, Fairness Norms and the Hold-up Problem (2013)
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Persistent link: https://EconPapers.repec.org/RePEc:mdl:mdlpap:0312

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