Bidding and sequential coalition formation with externalities

We study coalition formation games with externalities where each agent’s payoff depends on the entire partition. As in Bloch (1996) and Ray and Vohra (1999), we assume that coalitions form sequentially and agreements are irreversible. Instead of a fixed order protocol, we use a ‘bidding mechanism’ (see Pérez‐Castrillo and Wettstein, 2002) to determine proposals and transfers among the agents. We show that such a mechanism facilitates the attainment of efficiency; in particular, our game admits a Markov perfect equilibrium with the property of full dynamic efficiency. In addition, the aggregate equilibrium payoffs of our game exhibit monotonicity in time. Nevertheless, inefficient equilibria can also emerge.