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Unobservable Investment and the Hold-Up Problem
Faruk Gul
Abstract
We study a two-person bargaining problem in which the buyer may invest and increase his valuation of the object before bargaining. We show that if all offers are made by the seller and the time between offers is small, then the buyer invests efficiently and the seller extracts all of the surplus. Hence, bargaining with frequently repeated offers remedies the hold-up problem even when the agent who makes the relation-specific investment has no bargaining power and contracting is not possible. We consider alternative formulations with uncertain gains from trade or two-sided investment.
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