Farsighted network formation - New York University.pdfVIP

Journal of Economic Theory 122 (2005) 143–164 /locate/je Farsighted network formation a a ,∗ b Bhaskar Du a , Sayantan Ghosal , Debraj Ray aDepartment of Economics, University of Warwick, Coventry CV4 7AL, UK bDepartment of Economics, New York University, NY 1 12, USA Received 24 June 2003; final version received 4 May 2004 Available online 23 Augus t2004 Abstract This paper studies a model of dynamic network formation when individuals are farsighted: players evaluate the desirability of a “current” move in terms of its consequences on the entire discounted stream of payoffs. We define a concep tof equilibrium which takes into accoun tfarsighted behavior of agents and allows for limited cooperation amongs tagents. We show tha tan equilibrium process of network formation exists. We also show tha here are valuation structures in which no equilibrium strategy profile can sustain efficien tnetworks. We then provide sufficien tconditions under which the equilibrium process will yield efficien toutcomes. © 2004 Elsevier Inc. All rights reserved. JEL classification: A14; C70; D20 Keywords: Networks; Farsighted; Formation; Equilibrium; Efficiency 1. Introduction In several social and economic contexts, the structure of interactions between individuals is bes tdescribed as a network. The precise structure of interaction across players may be crucial in determining the outcome. Examples include channels of information flow [3,6,7,22], trading networks [30,31,35], mutual insurance [15,16], technology adoption