Efficient Compromising

Two agents have to choose one of three alternatives. Their ordinal rankings of these alternatives are commonly known among them. The rankings are diametrically opposed to each other. Ex-ante efficiency requires that they reach a compromise, that is choose the alternative which they both rank second, if and only if the weighed sum of their von Neumann Morgenstern utilities from this alternative exceeds the weighted sum of utilities when either agent's most preferred alternative is chosen. We assume that the von Neumann Morgenstern utilities from this alternative exceeds the weighted sum of utilities when either agent's most preferred alternative is chosen. We ssume that the von Neumann Morgenstern utilities of the middle ranked alternative are independent and identically distributed, privately observed random variables, and ask whether there are incentive compatible decision rules which elicit utilities and implement efficient decisions. We show that no such decision rules exist if the distribution of agents' types has a density with full support. We also study the problem of finding second-best decision rules in our set-up, and explain how this problem differs from more familiar second-best problems. We give analytical and numberical insights into the nature of second-best rules. The compromise problem studied in this paper is closely related to a public goods problem in which individual agents face a liquidity constraint, but no participation constraint needs to be satisfied.