It Takes Three to Tango: An Experimental Study of Contracts with Stipulated Damages

Can incumbent sellers and buyers use contracts with stipulated damages to extract surplus from entrants? We experimentally study the strategic environments of Aghion and Bolton (1987)and Spier and Whinston (1995). As predicted, contract renegotiation weakens the commitment power of stipulated damage clauses. Behavioral deviations, including more generous offers from sellers and entrants, suggest non-monetary preferences. A dictator-seller environment indicates the limited role of inequity aversion. With communication, equitable allocations are more frequent and exclusion less frequent. Our results underscore the importance of payoff aspirations influenced by social norms of fairness. A theoretical extension accommodates our experimental findings.