Bargaining and Arbitration with Asymmetric Uncertainty

Arbitration is often used to settle bargaining disputes. Frequently in such disagreements, one party has better information with respect to the surplus to be allocated. This paper considers the impact that the choice of dispute resolution mechanism, conventional or final offer arbitration, has on settlement. This paper shows that theoretically final offer arbitration can systematically favor the informed party by shifting the contract zone towards more profitable allocations while conventional arbitration is theoretically less likely to generate a mutually agreeable settlement. Laboratory results find that the surplus shares are consistent with the predicted favoritism. However, settlement is positively correlated with the width of the contract zone and the data suggest that the location of the contract zone in final offer arbitration generates more disputes.