05-10-2012, 03:09 PM
AN EVOLUTIONARY ANALYSIS OF BUYER INSURANCE AND SELLER REPUTATION IN ONLINE MARKETS
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ABSTRACT.
Applying an evolutionary framework, we investigate how a
reputation mechanism and a buyer insurance (as used on Internet market
platforms such as eBay) interact to promote trustworthiness and trust
in markets with moral hazard problems. Our analysis suggests that the
costs involved in giving reliable feedback determine the gains from trade
that can be obtained in equilibrium. Buyer insurance, on the other hand,
can affect the trading dynamics and equilibrium selection. We find that,
under reasonable conditions, buyer insurance crowds out trust, and trustworthiness.
INTRODUCTION
Trading on Internet platforms such as eBay typically takes
place between anonymous and geographically dispersed parties
in one-shot interactions (e.g., Resnick and Zeckhauser, 2002).
This creates moral hazard on the seller side, hampering trade
efficiency. EBay responds to this challenge with a mixture
of policies and mechanisms that are devised to promote
trustworthy sellers and trusting buyers.1 The most prominent
mechanism to promote trustworthiness is eBay’s so-called
Feedback Forum, where traders can publicly post comments
on the transaction partner (Dellarocas, forthcoming a). The
most prominent policy to promote trust is eBay’s so-called
Purchase Protection Program, an insurance which reimburses
buyers “where an item was purchased on eBay and either not
received or was received but significantly not as described.”2
While, to our knowledge, there is no study dealing with the
effect of eBay’s buyer insurance on trading patterns, there is
quite some empirical and theoretical work on the impact of
the Feedback Forum. Overall, the literature seems to agree
that the Feedback Forum contributes to the trust and trustworthiness
levels observed on eBay.
A SIMPLE TRADE MODEL
Figure 1 shows how sellers and buyers interact in a basic
trade game. The seller can either be trustworthy and deliver
properly (δ = 0) or not (δ = 1). Then, in case of bad delivery,
the buyer must either leave a positive (or neutral) feedback
(ρ = 0) or a negative feedback (ρ = 1).8 Assume for
the moment that the payoff parameters , E, and d are all
zero. Then, a successful trade creates a surplus of 1, shared
equally between seller and buyer. Untrustworthiness, on the
other hand, yields q ∈ (1/2, 1) to the seller and zero to the
buyer. Clearly, in this simple scenario, inefficiency will arise
because of the seller’s incentive not to deliver properly.
Let us now assume that the basic trade game is played
repeatedly, such that in each period τ , each of an infinite
number of traders can assume both the role of a buyer or
that of a seller. In each period, buyers and sellers are randomly
matched to play the basic trade game.
CONCLUSIONS
In this study, we ask how buyer insurance and seller reputation
interact to reverse a decline of cooperation and proper
conduct in online markets such as eBay. Our evolutionary
analysis suggests that a reputation mechanism that elicits
truthful feedback would be very effective in promoting efficient
trade – independent of the existence of buyer insurance.
Assuming that bad reputation has sufficiently strong negative
payoff consequences for sellers, even a very small reward
from punishing defectors yields a unique and fully efficient
equilibrium. Surprisingly, in this model, buyer insurance has
no impact on trade efficiency in equilibrium. In particular,
if there is no efficient equilibrium without buyer insurance,
there will be no efficient equilibrium with buyer insurance.
However, buyer insurance can affect the basins of attraction
of equilibria that differ with respect to trade efficiency. Yet
in those important cases, in which efficient trade is not an
absorbing state, or in which trustworthy and untrustworthy
sellers coexist in a stable bimorphism, buyer insurance can
make things only worse. This is because, in the long run,
insurance renders improper seller behavior more ‘attractive.’