Endogenous and costly institutional deterrence

Abstract

Modern economies rely on central-authority institutions to regulate individual behaviour. Despite the importance of such institutions little is known about their formation within groups. In a public good experiment, groups selected the level of deterrence implemented by the institution, knowing that the administrative costs of the institution rose with the level of deterrence. Results suggest that groups readily self-impose costly deterrent formal institutions. The strictly deterrent institutions implemented here increased contributions sufficiently to completely offset the administrative cost and significantly increase earnings.

Keywords:

• public goods
• formal institutions
• central authority
• endogenous deterrence

JEL Classification:

• C92
• D70
• H41

Notes

¹ Engel (2014, forthcoming) motivate the effectiveness of nondeterrent institutions using a model of social preferences.

² Galbiati and Vertova (2008) investigate a nondeterrent, imperfect monitoring, institution that is exogenously imposed at no cost. They manipulate the level of contribution required to avoid the sanction and show that a nondeterrent institution can enhance welfare when the obligation is high.

³ Analysis of the phase 1 (VCM) and phase 2 (exogenous institution) results are available upon request.

⁴ Earnings appear low when monitoring is strictly nondeterrent but the number of observations is too small to allow statistical analysis.