Trust, Reciprocity, and Favors in Cooperative Relationships

We study trust, reciprocity and favors in a repeated trust game with private information. In our main analysis, players are willing to exhibit trust and thereby,facilitate cooperative,gains only if such behavior,is re- garded as a favor that must be reciprocated, either immediately or in the future. Private information,is a fundamental,ingredient in our theory. A player with the ability to provide a favor must,have the incentive to reveal this capability, and this incentive is provided by an equilibrium construc- tion in which,favors are reciprocated. We also offer the novel prediction that the size of a favor owed may decline over time, as neutral phases of the relationship are experienced. Indeed, a favor-exchange relationship with this feature offers a higher total payoff than does a simple favor-exchange relationship. We also describe specific circumstances,in which,a relation- ship founded,on favor exchange,may,be inferior to a relationship in which an infrequent and symmetric,punishment,motivates,cooperative,behavior. Finally, we show that a hybrid relationship, in which players begin with a honeymoon,period and then either proceed,to a favor-exchange relationship or suffer a symmetric punishment, can also offer scope for improvement. Atila Abdulkadiro˘glu is an Associate Professor of Economics, Department of Economics,