We investigate the capacity investment decision of a supplier who produces a critical component for a buyer. An incentive conflict is present, because the buyer possesses private forecast information about end customer demand. We use laboratory experiments to test the performance of nonlinear capacity reservation contracts offered by the supplier. We show that both bounded rationality and fairness preferences consistently lead to buyer contract choices that harm supplier performance and overall supply chain performance. We therefore examine several capacity reservation contracts that take into account the buyer's inability to maximize utility (bounded rationality) and/or the buyer's motives (inequity aversion). We find that considering these behavioral aspects in contract design enhances supply chain performance.
Using laboratory experiments, we study how communication media affect cooperation in a supply chain when the buyer has private information about the end‐customer demand. We show that coordinating contracts (quantity discount) combined with efficient means to electronically share private information (one‐way, pre‐defined text message) result in almost efficient outcomes, but only if verbal communication takes place before the actual contracting stage. Content analysis shows that verbal communication is especially effective in establishing trust and trustworthiness when players talk about reciprocal strategies and it is more so when the buyer clearly expresses guilt from lying. Furthermore, the clarification of the mutual benefits of information sharing moves the buyer to truthfulness. Finally, we show that our results are not due to a reputation building mechanism of repeated interaction.
In laboratory experiments, we compare the performance of short‐term and long‐term contracts in a two‐period supplier–buyer dyad with asymmetric cost information. We find that buyers tend to reject offers if the payoff inequality increases from one period to the next. We coin this dynamic form of inequity aversion as “ratcheting aversion.” We show that under short‐term contracting, the buyer's ratcheting aversion limits the supplier's leeway to exploit information revelation in earlier periods because suppliers fear contract rejections in later periods. As a result, the suppliers' empirical benefit of offering long‐term contracts over short‐term contracts is significantly larger than theory predicts. Furthermore, long‐term contracts enable supply chain partners to achieve less volatile supply chain performance than short‐term contracts because the buyers' ratcheting aversion leads to more contract rejections under short‐term contracting. While normative theory predicts that suppliers should include all future informational rents of the buyers in the first‐period offer, thereby creating large payoff differences between periods, we show that it can be behaviorally optimal for the supplier to make offers that lead to more equitable payoffs between periods.
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