Private Information and Dynamic Bargaining in Supply Chains: An Experimental Study

Problem definition: We conduct a controlled human-subjects experiment in a two-tier supply chain where a supplier’s per-unit production cost may be private information while bargaining with a buyer. Academic/practical relevance: Academically, supply chain studies often assume full-information or highly structured bargaining. We consider private information with dynamic, unstructured bargaining. In practice, a buyer may not know its supplier’s cost exactly and interact with its supplier in a back-and-forth bargaining environment. Thus, understanding how a supplier’s private cost information affects both supply chain outcomes and bargaining is new to the literature and relevant to practice. Methodology: We employ insights from mechanism design to generate restrictions on the space of agreements and solve for a specific bargaining solution under private information to generate precise predictions. These predictions are then tested through a human-subjects experiment. Results: In our experiment, theory predicts that all supplier types should earn at least 50% of total profits when their cost information is private. However, we find that high-cost suppliers earn a disproportionately low share of total profits under private information, 20.16%. We show that this is because buyers, under private information, act as if they are bargaining with the lowest-cost supplier and suppliers do not appear to blame buyers for behaving this way. Based on these findings, we conduct an additional experiment where suppliers have the ability to communicate their private costs to buyers and observe that verifiable disclosure significantly increases profits for high-cost suppliers. Managerial implications: High-cost suppliers actually suffer from having their costs as private information, which runs counter to theory. However, if high-cost suppliers can credibly disclose their costs to buyers, they can significantly increase profits. Lastly, although private information does not lead to more disagreements, negotiations do take longer, which can be costly to firms.

[1]  Gérard P. Cachon Supply Chain Coordination with Contracts , 2003, Supply Chain Management.

[2]  T. Schelling,et al.  The Strategy of Conflict. , 1961 .

[3]  A. Roth,et al.  The Deadline Effect in Bargaining: Some Experimental Evidence , 1988 .

[4]  Qi Feng,et al.  Dynamic Bargaining in a Supply Chain with Asymmetric Demand Information (With Online Appendices) , 2015, Manag. Sci..

[5]  J. Sobel,et al.  STRATEGIC INFORMATION TRANSMISSION , 1982 .

[6]  Ryan W. Buell,et al.  Lifting the Veil: The Benefits of Cost Transparency , 2016, Mark. Sci..

[7]  Colin F. Camerer,et al.  Outside Options and Social Comparison in Three-Player Ultimatum Game Experiments , 1995 .

[8]  R. Myerson Two-Person Bargaining Problems with Incomplete Information , 1982 .

[9]  Stephen Leider,et al.  Contracts and Capacity Investment in Supply Chains , 2018, Manuf. Serv. Oper. Manag..

[10]  Gary E. Bolton,et al.  ERC: A Theory of Equity, Reciprocity, and Competition , 2000 .

[11]  Yinghao Zhang,et al.  Contract Preferences and Performance for the Loss-Averse Supplier: Buyback versus Revenue Sharing , 2015, Manag. Sci..

[12]  Basak Kalkanci,et al.  Contract Complexity and Performance Under Asymmetric Demand Information: An Experimental Evaluation , 2011, Manag. Sci..

[13]  Kathleen Valley,et al.  How Communication Improves Efficiency in Bargaining Games , 2002, Games Econ. Behav..

[14]  Nigel Caldwell,et al.  Sharing Sensitive Information in Supply Relationships:: The Flaws in One-way Open-book Negotiation and the Need for Transparency , 2005 .

[15]  Elena Katok,et al.  Push, Pull, or Both? A Behavioral Study of How the Allocation of Inventory Risk Affects Channel Efficiency , 2014, Manag. Sci..

[16]  Christopher S. Tang,et al.  Designing Supply Contracts: Contract Type and Information Asymmetry , 2004, Manag. Sci..

[17]  R. Selten,et al.  A Generalized Nash Solution for Two-Person Bargaining Games with Incomplete Information , 1972 .

[18]  Chia-Jung Tsay,et al.  Creating Reciprocal Value Through Operational Transparency , 2015, Manag. Sci..

[19]  D. Moore,et al.  When Ignorance Is Bliss: Information Exchange and Inefficiency in Bargaining , 2004, The Journal of Legal Studies.

[20]  Bernd Irlenbusch,et al.  Strategic ignorance in ultimatum bargaining , 2013 .

[21]  Kyle Hyndman,et al.  Multidimensional Bargaining and Inventory Risk in Supply Chains: An Experimental Study , 2019, Manag. Sci..

[22]  G. Owen,et al.  Two-person bargaining: An experimental test of the Nash axioms , 1974 .

[23]  Elena Katok,et al.  Behavioral Research in Competitive Bidding and Auction Design , 2018, The Handbook of Behavioral Operations.

[24]  M. Rabin,et al.  UNDERSTANDING SOCIAL PREFERENCES WITH SIMPLE TESTS , 2001 .

[25]  A. Roth,et al.  Game-Theoretic Models and the Role of Information in Bargaining , 1979 .

[26]  Colin Camerer Behavioral Game Theory: Experiments in Strategic Interaction , 2003 .

[27]  W. Clay Hamner,et al.  The effects of information and aspiration level on bargaining behavior , 1975 .

[28]  A. Roth,et al.  Sociological versus strategic factors in bargaining , 1981 .

[29]  R. Nagel,et al.  Experimental results on ultimatum games with incomplete information , 1993 .

[30]  Alvin E. Roth,et al.  Disagreement in Bargaining , 1981 .

[31]  Colin F. Camerer,et al.  Creating Expectational Assets in the Laboratory: Coordination in 'Weakest- Link' Games , 1994 .

[32]  Alec Smith,et al.  Dynamic Unstructured Bargaining with Private Information: Theory, Experiment, and Outcome Prediction via Machine Learning , 2019, Manag. Sci..

[33]  Henricus Emerence David Houba Game theoretic models of bargaining , 1994 .

[34]  A. Galinsky,et al.  First offers as anchors: the role of perspective-taking and negotiator focus. , 2001, Journal of personality and social psychology.

[35]  Özalp Özer,et al.  Trust in Forecast Information Sharing , 2009, Manag. Sci..

[36]  Kyle B. Hyndman,et al.  Private Information and Endogenous Matching in Supply Chains: Theory and Experiments , 2018 .

[37]  R. Inderst Bargaining Theory with Applications , 2002 .

[38]  S. Siegel,et al.  Bargaining and Group Decision Making: Experiments in Bilateral Monopoly , 1961 .

[39]  Simon Siegenthaler,et al.  Meet the lemons: An experiment on how cheap-talk overcomes adverse selection in decentralized markets , 2015, Games Econ. Behav..

[40]  J. Nash THE BARGAINING PROBLEM , 1950, Classics in Game Theory.

[41]  Kay-Yut Chen,et al.  Buyer-Supplier Interactions , 2018, The Handbook of Behavioral Operations.

[42]  Juanjuan Zhang,et al.  Designing Pricing Contracts for Boundedly Rational Customers: Does the Framing of the Fixed Fee Matter? , 2008, Manag. Sci..

[43]  Stephen Leider,et al.  Bargaining in Supply Chains , 2016, Manag. Sci..

[44]  Elena Katok,et al.  Wholesale pricing under mild and privately known concerns for fairness , 2014 .

[45]  A. Roth Bargaining Experiments , 2020, The Handbook of Experimental Economics.

[46]  U. Fischbacher z-Tree: Zurich toolbox for ready-made economic experiments , 1999 .

[47]  Gérard P. Cachon The Allocation of Inventory Risk in a Supply Chain: Push, Pull, and Advance - Purchase Discount Contracts , 2004, Manag. Sci..

[48]  Bin Hu,et al.  MANUFACTURING & SERVICE OPERATIONS MANAGEMENT , 2017 .

[49]  Robert Forsythe,et al.  An Experimental Analysis of Strikes in Bargaining Games with One-Sided Private Information , 1991 .

[50]  Fernando Bernstein,et al.  Coordinating Supply Chains with Simple Pricing Schemes: The Role of Vendor-Managed Inventories , 2006, Manag. Sci..

[51]  A. Roth,et al.  THE ROLE OF INFORMATION IN BARGAINING: AN EXPERIMENTAL STUDY' , 1982 .

[52]  G. Loewenstein,et al.  Behavioral Law and Economics: Explaining Bargaining Impasse: The Role of Self-serving Biases , 1997 .

[53]  Gérard P. Cachon,et al.  Contracting to Assure Supply: How to Share Demand Forecasts in a Supply Chain , 2001, Manag. Sci..

[54]  Brian Tomlin,et al.  Capacity Investments in Supply Chains: Sharing the Gain Rather Than Sharing the Pain , 2003, Manuf. Serv. Oper. Manag..

[55]  Evan L. Porteus,et al.  Selling to the Newsvendor: An Analysis of Price-Only Contracts , 2001, Manuf. Serv. Oper. Manag..

[56]  Klaus M. Schmidt,et al.  A Theory of Fairness, Competition, and Cooperation , 1999 .

[57]  Kyle Hyndman,et al.  Aligning Capacity Decisions in Supply Chains When Demand Forecasts Are Private Information: Theory and Experiment , 2010, Manuf. Serv. Oper. Manag..

[58]  Nils Rudi,et al.  An Empirical Examination of the Decision to Invest in Fulfillment Capabilities: A Study of Internet Retailers , 2005, Manag. Sci..