Conventional Contracts

A "conventional" contract is a contract that each side of a bargain expects the other side to insist on, because it is standard and customary under the circumstances. We consider a process of convention formation in which agents' expectations evolve through repeated interactions in a large-population setting. Agents choose best replies given their knowledge of the precedents, subject to some inertia and random error in their choice behaviour. Over the long run, this adaptive learning process tends to select contracts that are efficient , and egalitarian in the sense that the payoffs are centrally located on the efficiency frontier of the payoff possibility set. When the payoffs form a convex, comprehensive bargaining set, the process selects the Kalai–Smorodinsky solution.