The Impact of Competition and Reputation Feedback Systems on Internet Trading

Many Internet trading platforms rely on 'feedback systems' to increase trust and trustworthiness and thus gains-from-trade in anonymous transactions. Competition creates incentives that arguably may enhance or curb the effectiveness of these feedback systems. We investigate how competition for trading partners or for price compared to the absence of competition influences the buyers' trust and the sellers' trustworthiness in a series of laboratory online markets. We find that competition in strangers networks (where market encounters are one shot) most frequently enhances trust and trustworthiness and always increases efficiency. One reason is that reputation feedback trumps pricing. Traders usually do not conduct business with someone who has a bad reputation, not even if he offers a substantial price discount. We also find that reliable reputation feedback can largely reduce the advantage of partners networks in promoting trust and trustworthiness if there is sufficient competition.