The Nash Bargaining Solution in Economic Modelling

TLDR

Bargaining incentives arise from parties’ time preferences and the risk of negotiation breakdown. This article establishes the relationship between the static axiomatic theory of bargaining and the sequential strategic approach to bargaining. We consider two strategic models of alternating offers. Each model has a unique perfect equilibrium, and as the motivation to reach agreement becomes negligible, the equilibrium outcome converges to the Nash bargaining solution with utilities reflecting settlement incentives and an appropriate disagreement point, providing a guide for applying the Nash bargaining solution in economic modelling.

Abstract

This article establishes the relationship between the static axiomatic theory of bargaining and the sequential strategic approach to bargaining. We consider two strategic models of alternating offers. The models differ in the source of the incentive of the bargaining parties to reach agreement: the bargainers' time preference and the risk of breakdown of negotiations. Each of the models has a unique perfect equilibrium. When the motivation to reach agreement is made negligible, in each model the unique perfect equilibrium outcome approaches the Nash bargaining solution with utilities that reflect the incentive to settle and with the proper disagreement point chosen. The results provide a guide for the application of the Nash bargaining solution in economic modelling.