Money Talks: Rebate Mechanisms in Reputation System Design

Reputation systems that rely on voluntary feedback from traders are important in creating and sustaining trust in markets. Reporting feedback, however, is often costly for the reporter and feedback is a public good. We combine theory with a laboratory experiment to study the effect of a novel seller precommitment mechanism on promoting feedback and market efficiency. Specifically, our precommitment mechanism provides sellers an option to commit by providing a rebate to reduce the buyer’s feedback reporting cost before making purchasing decisions. Our theory predicts that this mechanism induces noncooperative sellers to cooperate in the market. Using a buyer-seller trust game with a unilateral feedback scheme, we find that the seller’s rebate decision has a significant impact on the buyer's purchasing decision via signaling the seller's cooperative type. Importantly, both theory and experiment find that this precommitment mechanism can significantly improve market efficiency. JEL: C91, D82, L86, H41.