Self-Serving Biases in Bargaining

There is strong evidence that in bargaining situations with asymmetric outside options people exhibit self-serving biases concerning their fairness judgements. Moreover, psychological literature suggests that this can be a driving force of bargaining impasse. This paper extends the notion of inequity aversion to incorporate self-serving biases due to asymmetric outside options and analyses whether this leads to bargaining breakdown. I distinguish between sophisticated and naive agents, that is, those agents who understand their bias and those who do not. I find that breakdown in ultimatum bargaining results from naiveté of the proposers.