Konrad, Kai A.; Skaperdas, Stergios
Credible threats in extortion.
In: Journal of Economic Behavior and Organization, Vol. 33, No. 1: pp. 23-39
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There is a fundamental credibility problem in the extortion business: will the gang retaliate if I refuse to pay? Unlike reputation models, we emphasize the up-front investment choice by the gang of which potential victims are uncertain. For small numbers of victims only a no-extortion equilibrium exists. However, as the number of potential victims becomes large, this equilibrium disappears. The only subgame-perfect equilibria have extortion and expected loss from violence. We justify and examine the properties of one particular set of equilibria. The model can also shed light on credibility problems in settings other than extortion.