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Fraud tolerance in optimal crowdfunding

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  • Ellman, Matthew
  • Hurkens, Sjaak

Abstract

Reward-based crowdfunding enables credit-constrained entrepreneurs to raise money to develop and create innovative products. Crowdfunders’ low monitoring incentives open the door to fraud. In practice, fraud is surprisingly rare. Strausz (2017) proves that crowdfunding implements the optimal ex post individually rational mechanism design outcome in an environment with entrepreneurial moral hazard and private cost information. However,ex post individual rationality precludes all crowdfunding unless fraud can be prevented with certainty. Actual crowdfunding tolerates some fraud. We show this (i) generates strictly higher profits and welfare, but (ii) cannot implement the optimal ex interim individually rational outcome.

Suggested Citation

  • Ellman, Matthew & Hurkens, Sjaak, 2019. "Fraud tolerance in optimal crowdfunding," Economics Letters, Elsevier, vol. 181(C), pages 11-16.
    • Handle: RePEc:eee:ecolet:v:181:y:2019:i:c:p:11-16
    DOI: 10.1016/j.econlet.2019.04.015
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    References listed on IDEAS

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    1. Olivier Compte & Philippe Jehiel, 2009. "Veto Constraint in Mechanism Design: Inefficiency with Correlated Types," American Economic Journal: Microeconomics, American Economic Association, vol. 1(1), pages 182-206, February.
    2. Philippe Jehiel & Olivier Compte, 2007. "On Quitting Rights in Mechanism Design," American Economic Review, American Economic Association, vol. 97(2), pages 137-141, May.
    3. Daniel Krähmer & Roland Strausz, 2015. "Optimal Sales Contracts with Withdrawal Rights," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 82(2), pages 762-790.
    4. Roland Strausz, 2017. "A Theory of Crowdfunding: A Mechanism Design Approach with Demand Uncertainty and Moral Hazard," American Economic Review, American Economic Association, vol. 107(6), pages 1430-1476, June.
    5. Strausz, Roland, 2017. "A Theory of Crowdfunding," Rationality and Competition Discussion Paper Series 2, CRC TRR 190 Rationality and Competition.
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    Cited by:

    1. Ellman, Matthew & Hurkens, Sjaak, 2019. "Optimal crowdfunding design," Journal of Economic Theory, Elsevier, vol. 184(C).
    2. Matthew Ellman & Michele Fabi, 2022. "A Theory of Crowdfunding Dynamics," Working Papers 1349, Barcelona School of Economics.
    3. Li, Liangqiang & Yang, Liang & Zhao, Meng & Liao, Miyan & Cao, Yunzhong, 2022. "Exploring the success determinants of crowdfunding for cultural and creative projects: An empirical study based on signal theory," Technology in Society, Elsevier, vol. 70(C).
    4. David J. Scheaf & Matthew S. Wood, 2022. "Entrepreneurial Fraud: A Multidisciplinary Review and Synthesized Framework," Entrepreneurship Theory and Practice, , vol. 46(3), pages 607-642, May.
    5. Appio, Francesco Paolo & Leone, Daniele & Platania, Federico & Schiavone, Francesco, 2020. "Why are rewards not delivered on time in rewards-based crowdfunding campaigns? An empirical exploration," Technological Forecasting and Social Change, Elsevier, vol. 157(C).

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    More about this item

    Keywords

    Crowdfunding; Mechanism design; Moral hazard; Private information;
    All these keywords.

    JEL classification:

    • C72 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Noncooperative Games
    • D42 - Microeconomics - - Market Structure, Pricing, and Design - - - Monopoly
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law
    • L12 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Monopoly; Monopolization Strategies
    • L26 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - Entrepreneurship

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