The ultimatum game You're standing on the sidewalk with a friend, minding your own business, when a man

approaches with a proposition. He offers you $20 in one-dollar bills and says you can keep the money, under one condition: You have to share some of it with your friend. You can offer your friend as much or as little as you like, but if your friend rejects your offer, neither of you get to keep any of the money. What do you do? This isn't the premise for a spin-off of the TV show "Cash Cab"; rather, it's an economics experiment that provides some interesting insight into the human psyche. It's called the ultimatum game. Now you've got the $20 in your hand and your friend watches you expectantly. Will you low ball your friend? Will you split the money evenly? Will you be generous? Under a strictly utilitarian view of economics, you would give your friend the lowest possible amount. In this case you've got 20 dollar bills, so you would give your friend a dollar. Since it's found money, your friend should accept the dollar. Your friend might call you cheap, or perhaps offer a bit of gratitude drizzled generously with sarcasm -- but, hey, at least he or she made a dollar out of it. The thing is, this strictly utilitarian view doesn't translate to how people actually behave when faced with this decision. In experiments based on the ultimatum game, test subjects on the receiving end routinely reject offers they find too low. And in others, subjects who must choose how much to give often offer more than the lowest amount. This unlikely behavior provides some unique insight into the human mind and how we function as social animals. Find out about how we act during the game -- and what happens when the tables are turned -- on the next page.

Ultimatum Game The ultimatum game was first introduced to the literature by Güth, Schmittberger, and Schwarze [1982]. It is a one-shot two-stage sequential bargaining game. It is often used to illustrate the backward induction method of solving for a subgame perfect Nash equilibrium for monetary payoff maximizing players. However, the game involves salient fairness considerations and there are multiple reported results of equal-split or close to equal-split outcomes from experiments. Strategic considerations of the players include notions of fear, negative reciprocity, and other-regarding preferences. Game Rules In stage 1 of the ultimatum game the first player proposes a specific split of a fixed amount of money, say $10, to the second player. In stage 2 the second player can either accept the proposed split or reject it. If he/she accepts, the $10 is divided according to the first mover's proposal. If he/she rejects, both players get 0.

Another variation of the ultimatum game is its repeated version with discounting. Such an offer can be viewed as a percentage of the profit pie offered to the union. responders reject many positive offers and usually accept only close to equal-split proposals. Common Experimental Results Dickinson [2002] in his classroom experiment reports that the players do not behave as predicted by the self-regarding preferences model. instead of simply accepting/rejecting the offer. The results show that students? rejection frequency for the similar offer range goes up as the size of the pie increases. Nash Prediction for Self-Regarding Preferences The subgame perfect Nash equilibrium for agents with self-regarding preferences is for player 1 to propose keeping all the money for himself and by the tie-breaking rule for player 2 to accept because he/she will be indifferent between vetoing and accepting a proposal in which he/she receives a payoff of zero (or to pass the smallest possible positive amount of money. Possible Explanations of Observed Behavior Player 1 may propose a positive amount for player 2 because of:   Altruistic other-regarding preferences Fear that player 2 might reject a "selfish" proposal To test for quantitative effects of altruistic other-regarding preferences and fear of rejection of proposals one can use a dictator control treatment. instead choose a number between 0 and 1 to scale the payoffs. If the union rejects such situation may lead to a costly strike.union negotiations: A firm offers the final contract and the union can either accept or reject it. . Applications to Real-Life Situations One offer and a rejection or acceptance in the Ultimatum Game is similar to final-stage negotiations of various sorts:  Firm . For the description of Ultimatum Game Dictator Control go to the Dictator Game section. The average offers to second movers in this classroom game vary from 27 to 37 percent of a pie. ivided according to the proposal. in this case $1 in the absence of the tie-breaking rule). which is represented by a zero payoff to each player. for example player 2 might also have an outside option or. Instead. Overview of the Most Common Setup -stage game: player 1 and player 2.Interesting modifications: There exist various scenarios for the game.

Bilateral trade negotiations: If the Bilateral trade negotiations break down. Dickinson . take for example the dispute over the territory of Jerusalem between the Palestinian Liberation Organization and Israel. the gains from trade might get lost. Available Experiments Ultimatum Game Software at VeconLab A non-computerized ultimatum experiment by David L. Negotiations for peace between two disputing countries: Such case can also be considered a pie-splitting game.    New automobile purchases: Informed buyers when making new automobile purchases often know or at least have a good estimate of the dealer?s profit on the vehicle. These examples come from Dickinson [2002]. Failure to pass legislation: Political coalition falls apart over the failure to agree on the distribution of economic rents. The last offer from either side may be understood as an offer of a percentage of the dealer?s profit pie. Rejection of the last offer can often lead to an escalation of violence or war.