7 - Signaling in the Commons

Summary

INTRODUCTION

In this chapter, we continue our analysis of equilibrium behavior in settings where firms operate under incomplete information. We now examine CPRs that have been exploited by a single firm (the incumbent) and subject to entry threats by a potential entrant. The incumbent, after years of experience appropriating the resource, has access to more accurate information about the available stock than the potential entrant. However, the latter can observe the appropriation decisions of the incumbent, using them as signals that can help the potential entrant infer the stock. We analyze equilibria where the incumbent chooses a different appropriation for each stock level, and thus appropriation is an informative signal of the unobserved stock, i.e., separating equilibria. We then study equilibria where the incumbent selects the same appropriation level regardless of the stock they face. In this context, the entrant cannot infer the available stock upon observing the incumbent's appropriation. This type of equilibria are known as “pooling equilibria” since an incumbent facing different levels of stock pools into the same appropriation level, which conceals the underlying stock from the entrant.

For each of these equilibria, we investigate how their equilibrium appropriation levels differ from those arising under complete information, and evaluate how far away they are from the social optimum. This helps us understand if the static and dynamic inefficiencies that emerge under complete information (see Chapters 2–4) become emphasized when firms operate under incomplete information and face entry threats. We show that, while in some cases this information setting may lead to more severe inefficiencies, in other contexts firms’ incentives under incomplete information may induce them to alleviate part of the inefficiencies arising under complete information. In these situations, the uncertainty that the potential entrant faces about the available stock yields a welfare-improving outcome.

At the end of the chapter, we consider a regulatory agency that does not observe the available stock, thus being as poorly informed as the potential entrant, and evaluate under which conditions this agency may have incentives to invest in acquiring information about the stock value, subsequently distributing this information in media outlets, making the entrant informed; and in which cases it prefers, instead, to remain uninformed.