Network Formation with Heterogeneous Agents

The present paper analyzes a network formation problem, mainly based on the framework presented in [Bala-Goyal 2000]. We depart from their assumptions in two crucial aspects. On one hand, we assume that connecting to an agent pays off not only for the number of connections that the agent can provide but also for her intrinsic value. Since the values of the agents (which represent the amounts of information held by the agents) differ from agent to agent, we are introducing heterogeneity in the framework. On the other hand, we assume that each path connecting two agents has an associated cost which is the sum of the number of edges it includes. We obtain as a result that the only Nash structure is the circle network, which emerges as a robust and optimal structure that maximizes the benefits of the interactions among agents while at the same time it minimizes the costs of network formation. JEL Classification: D20, C72