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The impact of different institutions on information transfer and ratings in marketplaces. It discusses the effects of frictionless exchange and no information transfer, and examines equilibrium predictions and experimental behavior with frictions. The document also investigates the efficiency of information transfer and the prevalence of dishonest ratings, providing insights into the role of ratings in influencing consumer choices.
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JONATHAN LAFKY AND ALISTAIR J. WILSON
A BSTRACT. Public information sharing has become increasingly important in helping individuals make better, more informed choices. Our project uses a novel theoretical framework and laboratory experiments to analyze three simple, commonly used incentive schemes against an unincentivized baseline. Each incentive scheme has qualitatively different theoretical predictions for behavior and efficiency, while our laboratory experiments examine the degree to which these differences manifest themselves, and the best-case theory’s robustness to human behavior. Our findings indicate the possibility for substantial efficiency gains by introducing incentives that reward the provision of public information, even where those incentives drive a wedge between those providing and making use of information. In particular, our results point to a misaligned incentive commonly found in the field, sales commissions, as being a robust institution to stimulate the exchange of information.
Information is profitably shared by friends, colleagues and even strangers. A friend may volun- teer their positive experience with a new car model, while the stranger on the street might point us further down the road to a better coffee shop. Placing faith in others’ opinions allows us to use their experiences to make better choices for ourselves. This can lead us to pay more for a recommended car than a competing model, or walk slightly farther for a better espresso. Consumers have long relied on newspapers and periodicals to review new products for over a century: from books and plays, to consumer electronics and movies. More introspectively, academic journal editors have long relied upon disinterested peer reviews to advise them on publication decisions. In the above examples, and in many similar settings, decision makers benefit when informa- tion is shared openly. In this paper, we examine the potential for economic incentives to increase information sharing. In particular, we look at three common incentive schemes, each of which produces tradeoffs over the intensive and extensive information margins, as well as the distribu- tion of the gains from information sharing. In each incentive environment we examine tradeoffs between quality (the intensive margin) and quantity (the extensive) in information sharing, where we measure quantity as the likelihood that any advice is shared, and quality as the content of that advice.^1
Date: February, 2016. Lafky: Lafayette College, 110 Simon Center, Easton, PA ; lafkyj@lafayette.edu. Wilson: University of Pittsburgh, Department of Economics, 230 Bouquet Street, Pittsburgh, PA; alistair@pitt.edu. Our thanks to the following: John Asker, John Duffy, Matthew Embrey, Emanuel Vespa, Lise Vesterlund, Stephanie Wang, and audiences at the ESA, SEA, George Mason, and Lafayette. Any mistakes within are obviously not attributable to anyone but ourselves. (^1) In some sense quantity and quality are interchangeable, as we could simply measure the total amount of infor-
mation transmitted. Practically speaking, however, there are important distinctions between the the two measures, especially from the perspective of designers of ratings systems. This distinction is especially important for field data, where it is generally easy to observe the frequency with which ratings are given, but difficult or impossible to learn their accuracy.
While theory can make normative predictions on the effect of the distorting incentives—and indeed, we provide such an analysis—to do so typically requires strong equilibrium selection as- sumptions. An inherent multiplicity of prediction is a generic feature of cheap-talk games, and so comparative-static predictions from the best-case equilibrium (or any other consistent selection) may have little predictive power. Indeed, just the presence of a commonly known incentive could be enough to plausibly affect selection. To address this issue we examine an experiment that sets out to answer a number questions that theory or field data will struggle to answer: How effectively can we increase the provision of information by introducing incentives? Do the comparative-static predictions from the best-case equilibrium have predictive power in our data? Do incentives distort the information provided or are honesty norms too strong? How do those receiving information respond to the presence of different incentives? What are the impacts on sales and efficiency? The rich theoretical framework we set out mirrors a variety of information-sharing settings, with an informed sender reluctant to communicate due to a personal cost of providing information, but otherwise with interests that are fully aligned with an uninformed consumer. The best-case outcome in this environment exhibits inefficient under-provision, where the sender too often offers no advice. Though high-quality advice is sent when the cost of communicating is small, low rates of provision lead to an inefficient outcome. To this baseline setting we compare three possible incentive environments, each with their own advantages and disadvantages. The first incentive, which we call Receiver, is the most obvious to economists: a monetary transfer from the consumer making use of the information to the party providing it. Maintaining the alignment of interests, this institution provides a transfer conditional on both the provision and acquisition of information. Examples of this incentive include: printed reviews in newspapers, paying referees, and paid subscriptions for access to rating aggregates (for example, Zagat’s or Angie’s List). Though receiver-to-sender transfers can help increase quantity while maintaining quality, there are potential issues. The first is distributional: As the transfer becomes larger, more of the gains from information transmission are shifted to the party providing information. In fact, for large enough payments, final consumers can be made worse off than with no incentive for infor- mation sharing. The second issue is equilibrium selection. Babbling equilibria with no information sharing will always exist in this setting, representing the absence of any information transmission.^2 As the size of the incentive payment increases, coordinating on an efficient informative equilibria becomes more-and-more risky for those acquiring information. Our remaining two incentives look to parties other than the final consumer to subsidize infor- mation transfer. The second incentive, labeled Vendor, implements a payment from a marketplace that sells a variety of competing products. The Vendor incentive provides a payment for each sale made, regardless of the chosen product chosen, mirroring a sales-commission incentive. The theo- retical effect in the best-case equilibrium is to trade off alignment of interest between those sharing information, and therefore quality of the information transmitted, in exchange for greater provi- sion. Sales-contingent incentives are commonplace, with examples such as: salespeople at multi- product stores or brokers offering advice over different investments (explicit sales commissions); servers providing advice on the dessert menu (implicit through a larger tip); and product-review
(^2) For an example of such selection in the field, take Google Answers, a website where those seeking information
directly compensated those providing it. The website was eventually closed after the community using it became too small.
outcomes of our four institutions, due to the transfers receivers must make to acquire this informa- tion. We instead find that implementing a sales-commission incentive that trades off alignment-of- interest with the informed party in exchange for greater provision leads to superior outcomes for recipients. After analyzing our experimental results, we extend our analysis through two counterfactuals that further bolster our results that sales-commission incentives offer the best outcomes. The first exercise extrapolates our findings across a broader range of parameters by varying the distribution of consumers’ outside options. We show that sales-based incentives to those providing advice produce higher final-consumer welfare and increased total sales across a broad range of values for the expected outside options, suggesting our results are not driven by our particular choice of parametrization. More specifically, we show that specific producers interested in the sales of their own products do better in the long run (that is, where the incentive’s presence is commonly known) with the Vendor incentive than the Producer. This motivates our second counterfactual, which uses our data to examine the extent to which marketplaces and producers might profit in the short-run by secretly introducing misaligned incentives. The results indicate that substantial short-run profits are available to manufacturers who surreptitiously offer those providing advice an incentive to gin-up sales. In contrast, these short-run gains are much smaller when introduced into the already partially misaligned Vendor environment. Taken together, the two counterfactuals suggest that sales-contingent incentives at the mar- ketplace level are the more-efficient stable institution. In comparison to the other environments the sales incentives generate long-run gains to final consumers, marketplaces and to producers with existing customer bases. Moreover, while firms contemplating the covert introduction of Producer-style marketing schemes into a Vendor environment will suffer long-run losses from re- duced credulity, the short-run gains are much smaller than they would be if interests were fully aligned, per the Receiver case. Environments with sales commission therefore provide a measure of inoculation to the introduction of incentives that might poison the well.
1.1. Related Literature. The theoretical starting point for the information transmission literature is Crawford and Sobel (1982), which describes the impossibility of full revelation with cheap talk when senders of information have misaligned preferences with receivers. Where the senders have state-dependent preferences, the upper bound for information revelation is shown to be decreasing in the size of the misalignment. Our aligned-incentive institutions have state-dependent preferences for senders with zero bias term, and with a larger message space full revelation would be possible. However, our misaligned-incentives bear more resemblance to the state-independent preferences with multiple dimensions in Chakraborty and Harbaugh (2010), where the sender is misaligned in one or many of these dimensions. In our setting these two dimensions are the particular product, and the receiver’s WTB. Our environment has costs for both sending and acquiring messages. 4 However, these costs are not message specific, and the cost is incurred if any message is sent or received. Because the send cost does not vary with the sender’s type, our paper is more related to the cheap talk literature than to the costly signaling literature.
(^4) A related paper with costs to both senders and receivers is Dewatripont and Tirole (2005), though there costs
vary over the precision of articulation or interpretation of the message. See also Dessein and Santos (2006); Calvó- Armengol, de Martí, and Prat (forthcoming) for models of endogenous communication with costs.
Several papers have examined incentives for communication from the perspective of online ratings. Chen, Harper, Konstan, and Li (2010) use social comparison between users of a movie rat- ing website to increases rating provision, while Wang (2010) argues that increased social identity increases provision. There is also evidence that ratings given in the absence of explicit incen- tives may be subject to systematic biases as in Hu, Zhang, and Pavlou (2009) and Lafky (2014), which demonstrate the tendency for raters to over-report positive or negative experiences, relative to moderate outcomes. 5 There is also some evidence for biases due to self-selection, as in Li and Hitt (2008), where consumers who are predisposed towards a product are more likely to rate early in the product’s lifespan, leading to artificially positive ratings. A body of work has experimentally examined tensions between agents in the Crawford and So- bel environment. 6 The main experimental finding is that subjects over-communicate relative to the- ory: senders tell the truth more often than predicted, and receivers infer honesty too much, though with a large heterogeneity explained via level-k thinking. In a setting closer to our own, Wilson (2014) examines the behavior of subjects in aligned-interest groups with similar two-sided costs. He finds subjects under-respond to the costs of sending messages, and overpay to acquire informa- tion, relative to the gains obtained. In contrast, our own paper examines institutional changes that influence the cost of sending and receiving messages, and the extent to which senders are aligned with receivers. Taking away the costs of communication, and independent of our own work, Chung and Harbaugh (2012) examine the extent to which observed play matches the equilibrium predic- tion in a similarly structured sender-receiver environment. Receivers face a choice between two products and an outside option. They find that messages are persuasive, even in those environments where theory predicts they should not be, matching a result we find in our misaligned treatments.^7
In this section we introduce our formal framework. We then introduce the four environments we will analyze, and provide an informal discussion of the most-informative equilibria, where readers interested in more formal constructions are referred to the appendix. After the informal discussion of equilibria for general parameters, we move on to the specifics in the next section, where we introduce the experimental parametrization, and indicate the most-informative equilib- rium outcomes. To begin constructing our framework we first describe the uninformed consumers problem: A representative consumer R (the receiver, he) faces a choice between two initially symmetric, non- divisible products, product A or product B. The consumer has a unit demand for either product, but can also choose to purchase neither, and consume an outside option with a privately known value ! 2 R, drawn according to a CDF H. If R chooses a product Z 2 {A, B}, he forgoes his outside option, and receives a product with some random quality/utility level z 2 ⇥ = {✓ 1 ,... , ✓ (^) N } ⇢ R. We denote the outside-option choice as R (as in they choose themselves), so the overall choice set
(^5) Also see Bolton, Greiner, and Ockenfels (2013) with respect to managing the distortive effects of reciprocity when
ratings are two-way. (^6) See Dickhaut, McCabe, and Mukherji (1995), Cai and Wang (2006), Wang, Spezio, and Camerer (2010). For
extensions to multiple senders or receivers see Lai, Lim, and Wang (2011); Vespa and Wilson (2014) and Battaglini and Makarov (2014). (^7) See also Charness and Garoupa (2000) which examines the extent to which reputation affects revelation, where
senders have a state-independent preference to induce sales.
Against these two extremes (full frictionless exchange and no information transfer) we will consider equilibrium predictions and experimental behavior where information transmission be- tween the consumers has frictions: where the provision of information incurs private costs to the sender; where the language available to communicate information is limited; and where acquisition of provided information to the receiver is costly. Given sender provision costs, a second-best outcome emerges in equilibrium in which con- sumers, merchants, and the manufacturers of specific products benefit from greater provision. Our analysis will consider three plausible institutions for increasing provision, and examine equilibrium predictions and experimental behavior in each regime. Under a particular institution , we will ex- amine the expected gross outcome for receivers, W ( ) = Ew (^) R (Z; ), normalized to indicate the efficiency of information transfer as:
⌥( ) =
That is, we measure efficiency as the gain in W ( ) relative to the individually rational, no- communication lower bound W , as a fraction of the the maximal information exchange possible in a frictionless setting, (W W ). The full sender-receiver game’s timing is as follows: (i) Nature draws a state of the world ( A^ , B^ , c S^ , !) where A^ and B^ are iid draws from a set of lotteries ⇢ ⇥; c S^2 R is a cost of provision drawn independently from a CDF G; and! 2 H ⇢ R is a reservation, drawn independently from CDF H. (ii) S observes her send cost c S^ , and obtains a single draw x from X^ , where the initial product X 2 {A, B} is selected with equal probability. Given the signal (X, x), her choice is a rating/message m 2 M [ {m (^) ; }, where M is a set of meaningful ratings, and m (^) ; is the empty message, choosing not to provide. Choosing any m 2 M incurs the cost c S^ , while choosing not to provide, m = m (^) ; , is free. (iii) R observes whether there was a provided rating, learning either that {m 2 M} or that {m = m (^) ; } has occurred. If {m 2 M} he first chooses whether or not to acquire the infor- mation, ⇢ 2 {View, Not}, incurring a fixed cost c R^ > 0 only when he views.^10 (iv) R observes his private outside option !, and the precise rating m 2 M if viewing. He then makes a choice Z 2 {A, B, R}, with a realization z from Z^ if a product is chosen, and! if he selects the reservation.^11
Completing the specification of the game over the action choices (m, ⇢, Z), S and R’s preferences are modeled through the net utility functions
u (^) S (m, ⇢, Z) = x + ↵ · w (^) R (Z; !) c S^ · 1 {m 6 = m (^) ; } + (^) S (m, ⇢, Z) · T, u (^) R (Z, ⇢, m) = w (^) R (Z; !) c R^ · 1 {⇢ = View, m 6 = m (^) ; } (^) R (m, Z, ⇢) · t,
where ↵ > 0 is a preference parameter reflecting a prosocial incentive to help receivers make better product choices. 12 The institution is reflected by a conditional transfer T > 0 to (t > 0 from) the
(^10) The cost c R (^) can be thought of as a small nuisance cost of viewing a rating. Intuitively, this is the small amount
of time and effort it takes to read and comprehend a message. (^11) We assume that the realization of! happens after rating viewing for tractability. The first-order effect from
alternating the order is to reduce viewing behavior for those R-types with high reservations. (^12) The sender having a lexicographic preference over the receiver outcome, subordinate to her own outcome, would
also suffice for our needs. The required assumption is simply that conditional on sending a non-empty message, the sender and listening receiver are strongly aligned in interest over the choice Z.
sender (receiver), conditioned on the specific events indicated through (^) S (m, ⇢, Z) 2 { 0 , 1 } (and
R (m,^ ⇢, Z)^2 {^0 ,^1 }). The transfer conditions can therefore respond to any of the action choices made in the game, where our paper will focus on four simple variations. A pure strategy for the sender is a rating choice μ : {A, B} ⇥ ⇥ ⇥ R! M [ {m (^) ; }, a decision on the rating to send given the signal (X, x) and provision cost c S^. The strategy for the receiver is the tuple (⇢, {⇣ (^) m }m 2 M , ⇣ (^) M , ⇣ (^) ; ): a listening decision ⇢ 2 {View, Not}, and a product choice ⇣ (^) I : H! {A, B} [ {R} for every possible information set, I 2
k 2 M {m^ =^ k}^ [^ {m^2 M}^ [ {m = m (^) ; }. 13 The relevant choices for R are: i) viewing the provided rating m, and responding with ⇣ (^) m ; ii) knowing that a rating was provided, m 2 M, but not viewing it, with a response ⇣ (^) M ; and iii) knowing that no rating was provided, and responding with ⇣ (^) ;. Beliefs at every information set I for S and R are given by (^) S (I) and (^) R (I), which are conditional distributions over the entire state ( A^ , B^ , c S^ , !). Our solution concept will be Perfect Bayesian equilibrium (PBE), < μ?^ , ⇢?^ , ⇣?^ ; ? S , ? R >, where we focus on illustrating the most-informative and least-informative PBEs under two symme- try restrictions. The first restriction is that we restrict attention to symmetric messaging strategies over the two products, so that there exist complementary messages, and similar quality experiences (the specific draw x) lead to similar ratings, regardless of the precise sampled product identity (X = A or X = B). The second restriction is that when agents are indifferent over Z 2 {A, B}, any resulting ties are broken by an equal randomization between them, where all other strategy components are pure. The reasoning behind these restrictions is to focus on symmetry between the two products being broken by ratings ex post, and not through an ex ante coordination on a particular product.^14 Given the description of the environment, we now describe the four environments we will compare. We first introduce the specific transfer rules , and then provide a qualitative description of the most-informative equilibrium. The environments we will study are:
Baseline. No conditional transfers, so S^ (m, ⇢, Z) = R^ (m, ⇢, Z) = 0 for all possible action choices. So long as c R^ is not too large and there are senders with low enough provisions costs, in- formation transfer is possible in equilibrium. 15 However, because the provision cost c S^ is privately incurred by senders, there may be draws for which senders do not provide a rating, and select m (^) ; instead. The main tension in the Baseline environment is on provision, where rational senders will under-provide information relative to the benefit receivers derive. 16 In an environment with transferable utility where ↵ is small, a Pareto improvement will be possible at costs c S^ > 0 , where receivers pay for rating provision, which leads us to the next institution.
Receiver Transfer. One simple policy to ameliorate the provision failure in the Baseline is a trans- fer from the receiver to the sender. Should a non-empty rating be provided, each receiver viewing
(^13) We allow for receivers to randomize over the two products A and B to maintain symmetry in the case where no
information is revealed. However the focus of the paper is on how ratings provided by S allow us to break symmetry. (^14) Moreover, in our experimental environment, we will explicitly prohibit any such coordination by randomly rela-
beling A and B between the sender and receiver. (^15) A sufficient condition for the second part is that G(0) > 0 , so a positive fraction of senders have no cost or enjoy
sending. In the experiment subjects do receive negative cost draws for sending, with the interpretation being that these senders (net any costs) enjoy sending information to others. (^16) In informative equilibria, the decision to provide or not can be characterized by a signal-specific cutoff
c?^ (⌫ (^) X (x); ) where the sender provides a rating in m 2 M for all c S^ c?^ (⌫ (^) X (x); ). The theoretical appen- dix provides additional details.
Similar to the receiver transfer, this environment has the effect of reducing sender’s provision costs in informative equilibria, and therefore increasing the quantity of information. However, if the conditional transfer T is large in relation to the altruism term ↵, the transfer has a negative effect on alignment of interest between S and R: they are now only partially aligned. Senders derive a benefit from receivers buying a product, regardless of their particular reservation !, though they are still aligned with the receiver over which product A or B should be chosen. For ↵ small, the most-informative equilibria restrict senders to providing just two effective ratings, with the ordinal interpretations “A B” and “B A.” The statement that A B tells the receiver that the sender’s signal is in {(X, x) |E [w (^) R (A) |x] > E [w (^) R (B) |x]}.^19 Whether receivers are better off here than in the most-informative equilibria in the Baseline and Receiver environments depends on the specifics. On the one hand, the provision of informative ratings increases, and receivers are not paying for the provision subsidy. On the other hand, the amount of information conveyed with each rating is more restricted. Similarly, providing such a transfer may or may not help increase product sales for the vendor player. From the vendor’s perspective, this conditional transfer can be sensible both as a short-run marketing response to the Baseline setting, and in the long run. If a large mass of final consumers have reservations just above ✓¯, such a policy will be very effective. Every provided rating is predicted to have a positive influence on sales. A rating with the content “A B” leads to expected qualities satisfying ⌫ (^) A (A B) > ✓¯ > ⌫ (^) B (A B). As such, every provided and viewed rating is predicted to increase WTB to ⌫ (^) A (A B) from ✓¯. In comparison, in the aligned-interest setting, many provided ratings will simply say that a particular product is below average, having no effect on total sales. The sales benefits from this type of incentive have a limit though, and in environments where the large mass of receivers have reservations far above ⌫ (^) A (A B) (or for that matter below ✓¯), a sales-incentive will be ineffective at generating increased vendor revenue. In the Baseline and Receiver cases there are equilibria where senders with very good product experiences can influence high-reservation receivers. In Vendor though, the lack of alignment between S and R over WTB limits the extent to which a high-reservation receivers can be persuaded to purchase—no receiver with! > ⌫ (^) A (A B) will ever make a purchase in equilibrium. Similarly, for any receivers with ! < ✓¯ , sales-conditioned incentives are ineffective marketing tools for vendors, as these receivers would have purchased a product even in the absence of any provided information.
Producer Transfer. Our final institution considers a transfer to senders provided by the specific producer X 2 {A, B} with which the sender has product experience (through a unique coupon in product X’s packaging, say). Here we consider the transfer T to the sender only if the receiver purchases the specific product X,
S (^) (m, ⇢, Z) =
1 if Z = X, 0 otherwise,
where we again set R^ = 0 in all situations, as the transfer is paid for by the producer X. We could strengthen the condition and require that the rating be viewed as well, however the equilibrium outcome would be essentially the same.
(^19) If ↵ is very large and T small, more-informative equilibria exist. In cases where T is not large enough for senders
to provide at every c s^ (and ↵ is not negligibly small) changes in the probability of providing a rating given the signal x must also be incorporated. This effect is very small under our experimental parametrization at the equilibrium, and so we will not focus on it in our discussion of the theory.
Whenever the transfer T is large relative to ↵, the only equilibria are babbling and involve zero-information transfer (where the appendix provides a sufficient condition). If receivers view and alter their purchasing decisions based on ratings (either substituting between products, or in- creasing their WTB) then senders have a signal-independent incentive to choose the rating that increases the likelihood of an X sale. As such, in any equilibrium, ratings convey no meaning- ful information about X, and receivers choose not to view as c R^ > 0. Though such incentives may generate a significant sales boost to producers in the short-run if introduced without receiver’s knowledge, the effect is to poison the well in the long run as receivers learn of their presence. Any transfers made from the producer X to the sender that are linked to sales are therefore predicted to be ineffective in equilibrium. More developed and detailed constructions for the theory, and a formal description of the equi- librium concept used to generate the theoretic predictions are provided in the appendix. We now illustrate the specifics through our experimental parametrization.
3.1. Experimental Procedures. We utilize a between-subject experimental design over four treat- ment environments, paralleling a Baseline environment with no transfers, and the three conditional transfers to senders described above: a Receiver transfer conditioned on a viewed rating; a Vendor transfer conditioned on a viewed rating and a sale; and a Producer transfer from producer X, con- ditioned on a sale of product X. In each treatment, subjects participate in 30 rounds of the fixed environment, with random anonymous matching. We now detail the chosen parametrization for the experiment.
Determining the state. The primary uncertainties in the model are the quality distributions A^ and B^. The experiment’s proxy for these distributions are two urns, Urn A and Urn B. Each urn is filled with two balls labeled with an integer between 1 and 100, so the possible set of realizations for each ball is ⇥ = { 1 ,... , 100 }. In every round t and for every sender i, the two urns are independently filled via the following procedure: i) An initial ball ✓ 1 is placed in the urn, where each integer value from 1 to 100 is equally likely; ii) with probability 1 / 2 , the second ball ✓ 2 is another independent uniform draw from 1 to 100, and with probability 1 / 2 the second ball is a copy of the first ball, so ✓ 2 = ✓ 1. An urn X is completely determined by the two balls in the urn, ✓ X 1 and ✓ 2 X , and choosing urn A or B is equivalent to choosing the lotteries 12 · ✓ A 1 12 · ✓ A 2 or 12 · ✓ 1 B 12 · ✓ 2 B , respectively. The set of all possible urns, =