Promises, Reliance and Psychological Lock-In

Rebecca Stone&

Alexander StremitzerIMPRS Jena, July 28

Legal Enforcement of Promises

• Conventional account: Legal system enforces promises because otherwise…– promisors would opportunistically break promises.– Anticipating this promisees would under-rely.

• Treating this under-investment result as a benchmark, the question then becomes which remedy leads to better investment incentives (Shavell 1980, 1984; Rogerson 1990; Edlin & Reichelstein 1994, ...).– Typically, the legal regime runs the risk of leading to

overinvestment.

Legal Enforcement of Promises

• Legal enforcement facilitates exchange and production by allowing people to commit to a future course of action.

Alternative Sources of Commitment

• Reputational concerns - literature on relational contracting (Macaulay 1963, Klein & Leffler 1981, Baker, Gibbons & Murphy 1994, Levin 2003, ...)– Allows promisors to commit to a future action in

repeated interactions (but not in a one-shot interaction.)

Alternative Sources of Commitment

• Moral force of promise keeping (Ellingsen & Johannesson 2004, Charness & Dufwenberg 2006, Vanberg 2008, Ederer & Stremitzer 2015...)– Classic Game Theory: Mere cheap talk. No

commitment, no reliance investments.– Guilt Aversion: Creates commitment power,

positive investment incentives in the absence of legal enforcement (also in one-shot interaction.)

Promissory Lock-in

• If reliance affects a promisor’s guilt from breaking his promise, we would predict that– Promisors more inclined to keep promises that

have been relied upon.• If promisees anticipate this, we would predict

that– Promisees overinvest in order to encourage

promisors to keep their promises (“psychological lock-in”)?

Effect of the Legal Regime

• Legal enforcement might therefore– Reduce overinvestment as promisees no longer

have to rely on the extra-legal mechanism of locking in the promisor (by overinvesting).

– But, might also reduce cooperation when the legal regime is not triggered (crowding out).

Legal Regime

• We study legal enforcement that resembles a promissory estoppel regime. – Enforcement of promises that have been

detrimentally relied upon.– Discretion between ED and RD.– In this paper, we focus on ED.

Player A

Don’t Send MoneySend Money

A gets 12B gets 12

A gets 15B gets 6

Design The Modified Dictator Game

Player B

Player A

B’s investment = i

Don’t Send MoneySend Money

A gets 12B gets 12 if i = 0 12.50 – 0.25i if i > 0

A gets 15B gets 6 – i

0 1 2 3 4 5 6

Design The Modified Dictator Game

Design

• Treatments:– No Regime: No enforcement; subjects can make

promises to one another.– Expectation Damages: A has to compensate B if

she breaks a promise upon which B relied by paying B Expectation Damages.

Did A send money to B?

A B

0 12 12

1 12 12.25

2 12 12

3 12 11.75

4 12 11.50

5 12 11.25

6 12 11

Did A make a promise?

A B

0 15 6

1 15 5

2 15 4

3 15 3

4 15 2

5 15 1

6 15 0

A B

0 15 6

1 15 5

2 15 4

3 15 3

4 15 2

5 15 1

6 15 0

Yes No

Payoffs under No Regime

Did A send money to B?

A B

0 12 12

1 12 12.25

2 12 12

3 12 11.75

4 12 11.50

5 12 11.25

6 12 11

Did A make a promise?

A B

0 15 6

1 15 5

2 15 4

3 15 3

4 15 2

5 15 1

6 15 0

A B

0 15 6

1 15 5

2 15 4

3 15 3

4 15 2

5 15 1

6 15 0

Yes No

Payoffs under No Regime

Did A send money to B?

A B

0 12 12

1 12 12.25

2 12 12

3 12 11.75

4 12 11.50

5 12 11.25

6 12 11

Did A make a promise?

A B

0 15 6

1 15 5

2 15 4

3 15 3

4 15 2

5 15 1

6 15 0

A B

0 15 6

1 7.75 12.25

2 7 12

3 6.25 11.75

4 5.50 11.50

5 4.75 11.25

6 4 11

Yes No

Payoffs under Expectation Damages

Did A send money to B?

A B

0 12 12

1 12 12.25

2 12 12

3 12 11.75

4 12 11.50

5 12 11.25

6 12 11

Did A make a promise?

A B

0 15 6

1 15 5

2 15 4

3 15 3

4 15 2

5 15 1

6 15 0

A B

0 15 12

1 7.75 12.25

2 7 12

3 6.25 11.75

4 5.50 11.50

5 4.75 11.25

6 4 11

Yes No

Payoffs under Expectation Damages

Strategy Method and Belief Elicitation

• We used the strategy method for A’s choice:– A had to indicate whether or not she would send

money to B for every possible investment level;– A’s actual choice (and so final payoffs) was

determined by the choice she made for the investment level actually chosen by B.

• We also elicited B’s beliefs about A’s actions:– Prior to making his investment decision, B had to

indicate his level of confidence that A would send him money for each possible investment level.

Procedure

• Experiments were conducted at Xlab (Berkeley) and EBEL (UCSB).

• Between-subject design: each subject participates in only one treatment.

• 70 subjects per treatment.• In each treatment:

– Subjects play 8 rounds of the experiment (after 2 practice rounds).

– Each subject is randomly matched with a new subject at the beginning of each round.

Procedure• Earnings:

– One round was randomly selected for payment based on the subjects actions in this round.

• Average earnings = $11.55 – A different round was randomly selected for

payment based on B’s guesses about A’s actions• Average earnings = $2.19

– Subjects also earned a $5 show-up fee and payment for some post-experiment questions.

Results: Positive Cooperation in Absence of Legal Regime

• Dictators cooperate 40% of the time in No Regime.

• Average investment is 1.04 in No Regime. • Contrary to the predictions of Classic Game

Theory

ED generates superior investment decisions than No RegimeNOTE: less overinvestment

Results: Investment Decisions

0.2

.4.6

0 1 >1 0 1 >1

0 ED

Freq

uenc

y

InvestmentGraphs by regime

Results: Average Overinvestment

ED generates lower average overinvestment than No Regime: 2.3 versus 3.3.

12

34

No Regime ED

Average Overinvestment

Results: Psychological Lock-In

0.5

11.

52

2.5

Fitte

d va

lues

0 1 2 3 4 5 6Hypothetical Investment

Recipient's Beliefs

0.1

.2.3

.4.5

Fitte

d va

lues

0 1 2 3 4 5 6Hypothetical Investment

Dictator's Cooperation

Dictators cooperate more as investment increases and Recipients anticipate this

Results: Cooperation

ED generates more cooperation than No Regime.

0.2

5.5

.75

Frac

tion

0 ED

Cooperation Rates

0.2

5.5

.75

1

0 ED

Promise

0.2

5.5

.75

1

0 ED

No Promise

Cooperation Across Regimes

Results: Promises Made

Introducing a Legal Regime reduces the numbers of promises

0.2

.4.6

.8Fr

actio

n of

Pro

mis

es

No Regime ED

Promises Made

Crowding Out

The legal regime crowds out cooperation when a promise is made and investment is zero.

0.2

.4.6

.81

0 1 2 3 4 5 6Hypothetical Investment

No Regime ED

Aggregate

0.2

.4.6

.81

0 1 2 3 4 5 6Hypothetical Investment

No Regime ED

Promise

Cooperation Profile

Crowding Out

Recipients anticipate this crowding out

01

23

4

0 1 2 3 4 5 6Hypothetical Investment

No Regime ED

Aggregate

01

23

40 1 2 3 4 5 6

Hypothetical Investment

No Regime ED

Promise

Belief Profile

Results: Joint Payoffs

Legal Regime with ED generates higher joint payoffs.

1819

2021

2223

2425

0 ED

Aggregate

1819

2021

2223

2425

0 ED

Promise

1819

2021

2223

2425

0 ED

No Promise

Joint Payoff Across Regimes

Results: Payoff Differentials

Legal Regime ED generates the lowest payoff differentials between participants

01

23

45

67

89

10

No Regime ED

Aggregate

01

23

45

67

89

10

No Regime ED

Promise

01

23

45

67

89

10

No Regime ED

No Promise

Payoff Differential Across Regimes

Conclusions

• Absent Legal Enforcement:– Promisors are more inclined to keep promises that

have been relied upon.– Promisees anticipate this effect:

• Beliefs: Positive relationship between reliance and cooperation.

• Actions: Overinvestment.– Consistent with “psychological lock-in”.

Conclusions

• Introducing the Legal Regime– ED generates superior investment decisions.

• Surprisingly, reduces overinvestment – ED improves overall cooperation rates.– Downside: ED crowds out voluntary cooperation

when legal regime is not triggered.• However, since Recipients anticipate this, it doesn’t have

a large effect on aggregate welfare.

Implications

• Reliance matters for promise keeping.• To the extent that law tracks our moral

intuitions, reliance should be legally relevant in deciding whether to enforce.

• Legal regimes may crowd out (inefficient) extra-legal enforcement mechanisms.

• Crowding out extra-legal mechanism is not necessarily a bad thing: ED gives promisees a more fine-tuned tool to lock in the promisor.

Appendix

  

 A will

certainly send B money

 A will

probably send B money

 There is a

50-50 chance that A

sends B money

 A

probably will not send B money

 A certainly

will not send B money

 B’s earnings if A decides to send him money 

 $0.65

 $0.60

 $0.50

 $0.35

 $0.15

 B’s earnings if A decides not send B money

 $0.15

 $0.35

 $0.50

 $0.60

 $0.65

Elicitation of B’s Beliefs

Participant 1

Participant 2 Participant 2

“I promise to send $ if you promise me back”

“I don’t promise”

“I don’t promise”“I promise” “I promise”

Both 1 & 2 have

promised

Neither 1 nor 2 have promised

Neither 1 nor 2 have promised

Only 2 has promised

Design: The Communication Phase

Freeform Design

• Alternative Design: – subjects to freely communicate during the

Communication Phase;– a panel of three other subjects evaluate the

conversations to determine whether promises were made.

• Problem: subjects coordinate on the investment decision, so any lock-in effect seems to disappear.

• [Question: We see less overinvestment under RD—remedies less relevant when trust develops?]

Promise-Making Over Time

.4.5

.6.7

.8.9

1P

rom

ise

Rat

e

1 2 3 4 5 6 7 8Period

No Regime EDRD

Promise-Making

Investment Over Time

0.5

11.

52

2.5

Mea

n In

vest

men

t

1 2 3 4 5 6 7 8Period

Control No RegimeED RD

Aggregate Investment over Time

Investment Over Time

0.5

11.

52

2.5

33.

5In

vest

men

t

1 2 3 4 5 6 7 8Period

No Regime EDRD

Promise

0.5

11.

52

2.5

33.

5In

vest

men

t

1 2 3 4 5 6 7 8Period

No Regime EDRD

No Promise

Dynamcis of Investment

Cooperation Over Time

0.2

.4.6

.81

Coo

pera

tion

Rat

e

1 2 3 4 5 6 7 8Period

Control No RegimeED RD

Aggregate Cooperation Over Time

Cooperation Over Time

0.2

.4.6

.81

Coo

pera

tion

Rat

e

1 2 3 4 5 6 7 8Period

No Regime EDRD

Promise

0.2

.4.6

.81

Coo

pera

tion

Rat

e

1 2 3 4 5 6 7 8Period

No Regime EDRD

No Promise

Dynamics of Cooperation

Joint Payoffs Over Time

2021

2223

24Jo

int P

ayof

f

1 2 3 4 5 6 7 8Period

No Regime EDRD

Dynamics of Joint Payoffs

Joint Payoffs Over Time

2021

2223

2425

Join

t Pay

off

1 2 3 4 5 6 7 8Period

No Regime EDRD

Promise

2021

2223

2425

Join

t Pay

off

1 2 3 4 5 6 7 8Period

No Regime EDRD

No Promise

Joint Payoffs Over Time

Did A send money to B?

A B

0 12 12

1 12 12.25

2 12 12

3 12 11.75

4 12 11.50

5 12 11.25

6 12 11

Did A make a promise?

A B

0 15 6

1 15 5

2 15 4

3 15 3

4 15 2

5 15 1

6 15 0

A B

0 15 6

1 14 6

2 13 6

3 12 6

4 11 6

5 10 6

6 9 6

Yes No

Payoffs under Reliance Damages

Did A send money to B?

A B

0 12 12

1 12 12.25

2 12 12

3 12 11.75

4 12 11.50

5 12 11.25

6 12 11

Did A make a promise?

A B

0 15 6

1 15 5

2 15 4

3 15 3

4 15 2

5 15 1

6 15 0

A B

0 15 6

1 14 6

2 13 6

3 12 6

4 11 6

5 10 6

6 9 6

Yes No

Payoffs under Reliance Damages