Groves Mechanism vs. Profit Sharing for Corporate Budgeting – An Experimental Analysis with Preplay Communication

Abstract

This paper experimentally explores the efficiency of the Groves mechanism and a profit sharing scheme in a corporate budgeting context. Specifically, it examines the effects of anonymous communication on both incentive schemes. The results show that although the Groves mechanism is analytically superior to the profit sharing scheme, the latter turns out to be advantageous for headquarters in our experiment. This is essentially due to the effects of communication on both incentive schemes. Under the profit sharing scheme, communication improves coordination and reduces inefficient resource allocation. Under the Groves mechanism, however, it leads to stable collusion strategies of the participants, and thus increases compensation costs.

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