Arbitration and the incentive to bargain: The role of expectations and costs

This study examines, within the context of a model developed recently by Farber and Katz, the role of expectations, uncertainty, and costs on the incentive to bargain. It is shown that experience with a compulsory arbitration process can best be viewed as creating opposing effects on the frequency of use. While decreased uncertainty will reduce incentives to bargain, the convergence of expectations can work either to increase or decrease arbitration usage over time. Empirical evidence, while suggestive, is found to be too limited to draw strong conclusions on the relative magnitude of these effects. In addition, the paper incorporates arbitration costs into the bargaining model, and the effects of costs on arbitration usage and on the outcomes of negotiated settlements are examined. Available evidence on the magnitude of direct arbitration costs is then summarized. Because these costs are often low and provide little incentive to bargain, the authors suggest a policy approach for levying costs on the parties. The authors thank Vincent Crawford, Henry Farber, Thomas Kochan, and James Bennett for helpful comments and Pamela Marett for research assistance.