Dynamic bargaining with voluntary participation and externalities

Rational and self-interested players are motivated to free-ride on an efficient agreement in economies with externalities. To provide a non-cooperative foundation of the Coase theorem, we consider a dynamic bargaining game for side-payment contracts. Players voluntarily participate in negotiations. If all players do not, then any contract is renegotiated. When the probability of negotiations stopping is sufficiently small, there exists an efficient Markov perfect equilibrium where all players immediately participate in the grand coalition. The agreement converges to the Nash bargaining solution as the stopping probability goes to zero. We further show that for any probability of stopping, all players form the grand coalition in finitely many rounds in every pure strategy Markov perfect equilibrium unless the game stops on the way.