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should reach an efficient agreement. The reason is simple. To settle for an inef-

ficient agreement is to leave money on the table. This cannot be profit maxi-

mizing; there exist alternative terms providing greater profit for both parties.

As we saw earlier, if the disputants in a conflict are sure of the disposition of the

case if it goes to court, they should settle the case in the first place with both

benefiting from saving the collective costs of going to court. At the same time,

we should emphasize that what is true in theory does not always hold in prac-

tice. Even under perfect information, identifying and implementing efficient

agreements is far from easy.

Imperfect Information

Will each bargainer typically have perfect information about the benefits and

costs (both to itself and its bargaining partner) of potential agreements? A

more realistic description of the bargaining setting posits imperfect informa-

tion on the part of the bargainers. Typically each side has only limited infor-

mation about its own values for potential agreements and, at best, will have

only probabilistic information about the other side’s values. Under imperfect

information, issues of bargaining strategy become increasingly important. In a

simple price negotiation, for instance, neither side knows for certain how far

it can push the other before an agreement becomes impossible. Indeed, nei-

ther can be certain whether there is a zone of agreement. The negotiation

process itself conveys information about possible acceptable agreements, but

this information cannot be taken at face value. In everyday bargaining, the par-

ties typically start with exaggerated and incompatible demands. It would be

foolish for one side to concede immediately to the other’s opening offer.

Similarly, it would be unwise for one side to “lay its cards on the table” and

reveal its true value for the transaction at the outset. In short, bargaining strat-

egy calls for a significant element of bluff.

The theory of negotiation under uncertainty yields an important result:

In bargaining settings under imperfect information, optimal bargaining behavior

is incompatible with the attainment of efficient agreements all of the time.

Imperfect information presents a barrier to the attainment of efficient agree-

ments both during and after the actual negotiations. As we shall see, it gen-

erally is in the self-interest of each side to keep its values private—indeed, to

misrepresent its values during the negotiations for the purpose of assuming a

“tough” bargaining stance. The result is a predictable number of missed

and/or inefficient agreements. The presence of uncertainty afteran agree-

ment is signed also poses problems. For instance, if agreements are difficult

to monitor or enforce, there may be insufficient incentives for one or both

parties to fulfill the terms of the agreement. The following example shows

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