Hostages, Bargaining, and Credibility

Imagine the police of a country announce that in all future hostage situations, they will always immediately come in firing.

If they ever have a shot, they'll take it, and whenever a hostage-taker is holed up in a building, they'll just charge in with guns drawn.

This would probably reduce the frequency criminals really trying to escape took hostages - because it just wouldn't work. But it wouldn't make much of a difference to crazy people. And for terrorists, it'd be even better because the police's hands would be forced.

The way to win a game of Chicken

Say two cars are going to drive towards eachother until one of them gets scared and chickens out. How to win this game?

The famous answer is: tear out the steering wheel and throw it out the window. Credibly and enforcibly commit to never swerving. So chicken becomes a race to tear out the steering wheel fastest. Whoever did it first would win - because obviously if the other guy's already got no steering wheel, you should just swerve cause you know he isn't!

So this example lets us really have credibility, and would result in nobody ever dying in chicken. It'd just be a race to who could commit to it first.

But wait... what if, you promised beforehand that even if you were the second guy, and the opponent already had no steering wheel, you'd STILL tear yours out and crash, killing you both? If you could credibly swear to that, maybe your opponent wouldn't be in such a rush to throw out his steering wheel.

So even in cases where we have the ability to get absolute credibility, reputation comes in. , being known as a tough guy, who never swerves, with a history of never swerving is also a good option. You need to have the right reputation.

This is why bargaining is fascinating - because you start with a simple game, but end up bringing in things from the human human realm - laws (tearing out the steering wheel), and reputations (being a tough guy). And the best strategy for the game must involve those things.

Bargaining

Say you are bargaining for an item and you know the merchant's total cost is 100. The item has a value of 200 for you. What should you pay? What is fair? All the merchant's costs are included in the 100 - there really is a gap, and someone is going to get that money.

Instant Contracts

Say you had an "instant contract" that said "I swear to never pay more than 101 for this" and signed it and gave it to the merchant. And say somehow it was really enforceable. Naively, he would just have to sell the item to you (rather than sit it with it there doing nothing for him).

The problem is, this contract isn't enforceable, and even if it were, merchants would make much less money - they'd probably come up with a way to resist.

Information about you and your value function can help the merchant immensely - and information about his costs are the keys to your bargaining.

When you do make an offer to him, it's possible his real cost is 110 - in which case he will just say "I will never make money that way" and appear to refuse to sell. However, this strategy works either way - so even in cases he is making a profit by selling, the seller will say the same thing. And indeed this is what you observe.

So the important things about bargaining are knowing his real price, and making him think you can walk away.

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3/22/2013 6:52:13 PM
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