Information Sharing in Vertical Relationships

Large firms often negotiate the terms of trade with their input suppliers. When they do so, an ex-ante agreement to share information about parameters should make it more likely that they will be able to reach an agreement and capture the gains from trade. However, if the firm refuses to share information, the supplier may shade down its price offer in order to increase the probability that it will be accepted. We show that this reduction in the price can increase the joint surplus to be shared by the agents and increase social welfare. As a result, there are some circumstances in which bargaining with incomplete information can be better for the agents and society than bargaining with complete information. We also show that many other outcomes are possible and that social welfare and expected profits are highly nonlinear with respect to key parameters.