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Institution Formation in Public Goods Games

  • Michael Kosfeld
  • Akira Okada
  • Arno Riedl

Centralized sanctioning institutions are of utmost importance for overcoming free-riding tendencies and enforcing outcomes that maximize group welfare in social dilemma situations. However, little is known about how such institutions come into existence. In this paper we investigate, both theoretically and experimentally, the endogenous formation of institutions in a public goods game. Our theoretical analysis shows that players may form sanctioning institutions in equilibrium, including those where institutions govern only a subset of players. The experiment confirms that institutions are formed frequently as well as that institution formation has a positive impact on cooperation rates and group welfare. However, the data clearly reveal that players are unwilling to implement institutions in which some players have the opportunity to free ride. In sum, our results show that individuals are willing and able to create sanctioning institutions, but that the institution formation process is guided by behavioral principles not taken into account by standard theory.

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Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number 1794.

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Date of creation: 2006
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Handle: RePEc:ces:ceswps:_1794
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  13. Andreoni, James, 1993. "An Experimental Test of the Public-Goods Crowding-Out Hypothesis," American Economic Review, American Economic Association, vol. 83(5), pages 1317-27, December.
  14. Chen, Yan & Plott, Charles R., 1996. "The Groves-Ledyard mechanism: An experimental study of institutional design," Journal of Public Economics, Elsevier, vol. 59(3), pages 335-364, March.
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  20. Anderson, Christopher M. & Putterman, Louis, 2006. "Do non-strategic sanctions obey the law of demand? The demand for punishment in the voluntary contribution mechanism," Games and Economic Behavior, Elsevier, vol. 54(1), pages 1-24, January.
  21. Haigner, Stefan & Kocher, Martin & Sutter, Matthias, 2006. "Choosing the Stick or the Carrot? Endogenous Institutional Choice in Social Dilemma Situations," CEPR Discussion Papers 5497, C.E.P.R. Discussion Papers.
  22. Matthias Sutter & Hannelore Weck-Hannemann, 2004. "An Experimental Test of the Public Goods Crowing Out Hypothesis when Taxation Is Endogenous," FinanzArchiv: Public Finance Analysis, Mohr Siebeck, Tübingen, vol. 60(1), pages 94-, April.
  23. Falkinger, Josef, 1996. "Efficient private provision of public goods by rewarding deviations from average," Journal of Public Economics, Elsevier, vol. 62(3), pages 413-422, November.
  24. Okada, Akira, 1993. "The Possibility of Cooperation in an n-Person Prisoners' Dilemma with Institutional Arrangements," Public Choice, Springer, vol. 77(3), pages 629-56, November.
  25. Yaw Nyarko & Andrew Schotter, 2002. "An Experimental Study of Belief Learning Using Elicited Beliefs," Econometrica, Econometric Society, vol. 70(3), pages 971-1005, May.
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  27. Josef Falkinger, 2004. "Noncooperative Support of Public Norm Enforcement in Large Societies," CESifo Working Paper Series 1368, CESifo Group Munich.
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