Bargaining with habit formation

Abstract

Habit formation is a well-documented behavioral regularity in psychology and economics; however, its implications on bargaining outcomes have so far been overlooked. I study an otherwise standard Rubinstein bargaining model with habit-forming players. In equilibrium, a player can strategically exploit his opponent’s habit- forming behavior via unilateral transfers off the equilibrium path to generate endogenous costs and gain bargaining leverage at no cost to himself on the equilibrium path. Uncertainty about habit formation may lead to delay in agreement.