Reference dependence, cooperation, and coordination in games

The problems of how self-interested players can cooperate despite incentives to defect, and how players can coordinate despite the presence of multiple equilibria, are among the oldest and most fundamental in game theory. In this report, we demonstrate that a plausible and even natural specification of the reference outcome in a game simultaneously predicts systematic cooperation and defection in the Prisoner’s Dilemma, as well as equilibrium selection and out-of-equilibrium play in coordination games. The predictions hold even if players are purely self-interested, there are no salient labels, the game is played only once, and there is no communication of any kind. Furthermore, the predictions are unique, as opposed to the multiplicity of equilibria in the infinitely repeated Prisoner’s Dilemma and in coordination games. We apply experimental results to test the predictions of the model.