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Peer Effects in Endogenous Networks

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  • Timo Hiller
  • Timo Hiller
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    Abstract

    This paper presents a simple model of strategic network formation with local complementarities in effort levels and positive local externalities for a general class of payoff functions. Results are obtained for one-sided and two-sided link creation. In both cases (pairwise) Nash equilibrium networks are nested split graphs, which are a strict subset of core-periphery networks. The relevance of the convexity of the value function (gross payoffs as a function of neighbours' effort levels when best responding) in obtaining nested split graphs is highlighted. Under additional assumptions on payoffs, we show that the only efficient networks are the complete and the empty network. Furthermore, there exists a range of linking cost such that any (pairwise) Nash equilibrium is inefficient and for a strict subset of this range any (pairwise) Nash equilibrium network structure is different from the efficient network. These findings are relevant for a wide range of social and economic phenomena, such as educational attainment, criminal activity, labor market participation, and R&D expenditures of firms.

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    Bibliographic Info

    Paper provided by Suntory and Toyota International Centres for Economics and Related Disciplines, LSE in its series STICERD - Theoretical Economics Paper Series with number /2013/564.

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    Date of creation: Sep 2013
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    Handle: RePEc:cep:stitep:/2013/564

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    Web page: http://sticerd.lse.ac.uk/_new/publications/default.asp

    Related research

    Keywords: Strategic network formation; peer effects; strategic complements; positive externalities.;

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    1. Edward E. Glaeser & Bruce Sacerdote & Jose A. Scheinkman, 1995. "Crime and Social Interactions," Harvard Institute of Economic Research Working Papers 1738, Harvard - Institute of Economic Research.
    2. Soramäki, Kimmo & Bech, Morten L. & Arnold, Jeffrey & Glass, Robert J. & Beyeler, Walter E., 2007. "The topology of interbank payment flows," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 379(1), pages 317-333.
    3. Case, A.C. & Katz, L.F., 1991. "The Company You Keep: The Effects Of Family And Neighborhood On Disadvantaged Younths," Harvard Institute of Economic Research Working Papers 1555, Harvard - Institute of Economic Research.
    4. Luca De Benedictis & Lucia Tajoli, 2009. "The World Trade Network," Working Papers 51-2009, Macerata University, Department of Finance and Economic Sciences, revised Mar 2009.
    5. Andrea Galeotti & Sanjeev Goyal, 2010. "The Law of the Few," American Economic Review, American Economic Association, vol. 100(4), pages 1468-92, September.
    6. Caroline Hoxby, 2000. "Peer Effects in the Classroom: Learning from Gender and Race Variation," NBER Working Papers 7867, National Bureau of Economic Research, Inc.
    7. Coralio Ballester & Antoni Calvó-Armengol & Yves Zenou, 2006. "Who's Who in Networks. Wanted: The Key Player," Econometrica, Econometric Society, vol. 74(5), pages 1403-1417, 09.
    8. Kennan,J., 2001. "Uniqueness of positive fixed points for increasing concave functions on Rn : an elementary result," Working papers 2, Wisconsin Madison - Social Systems.
    9. Bruce Sacerdote, 2001. "Peer Effects With Random Assignment: Results For Dartmouth Roommates," The Quarterly Journal of Economics, MIT Press, vol. 116(2), pages 681-704, May.
    10. Cohen, Wesley M & Levinthal, Daniel A, 1989. "Innovation and Learning: The Two Faces of R&D," Economic Journal, Royal Economic Society, vol. 99(397), pages 569-96, September.
    11. Venkatesh Bala & Sanjeev Goyal, 2000. "A Noncooperative Model of Network Formation," Econometrica, Econometric Society, vol. 68(5), pages 1181-1230, September.
    12. Topa, Giorgio, 2001. "Social Interactions, Local Spillovers and Unemployment," Review of Economic Studies, Wiley Blackwell, vol. 68(2), pages 261-95, April.
    13. Richard C. Levin & Peter C. Reiss, 1988. "Cost-Reducing and Demand-Creating R&D with Spillovers," RAND Journal of Economics, The RAND Corporation, vol. 19(4), pages 538-556, Winter.
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    Cited by:
    1. Baetz, Oliver, 0. "Social activity and network formation," Theoretical Economics, Econometric Society.

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