The visible hand in economics

Agreement eases the pain of a break-up

Posted on: September 4, 2007

That was the title of an article on Stuff. The purpose of this article was to convince people that a breaking up plan is a good idea. Now there are two reasons why I think a rational person would not choose to suggest a breaking up plan, even if it left them better off financially in the case when they did break up (Note: I am assuming that the person prefers the state of being in a relationship to not being in a relationship. If there is any dumping to be done the other person is going to do it šŸ˜‰ ):

1) It signals to the other person that you are thinking of life outside of the relationship. If this changes the way they view your payoff in the relationship, they may decide to jump ship rather than be pushed.

2) It reduces the cost of the other person dumping you, by reducing the uncertainty surrounding financial assets.

My focus will be on the second point. When you are in a relationship, it is costly to leave. You go from a situation where certain emotional and physical elements are provided cheaply, to one where these elements are more costly to purchase šŸ˜‰ . Furthermore, if the relationship has been going for a while, there is financial uncertainty. By removing the financial uncertainty, some of the cost of leaving the relationship has been removed.

Now assume you are A. You are in a relationship, and your payoff from staying in it is greater than the payoff available outside of the relationship. However, assume your partner, B, does not enjoy the services available in house as much. In fact, if it was costless to leave you, they would. In this case, you as A want to make the cost of leaving the relationship high enough that they stay in the relationship. As partner A, you can keep the cost of leaving the relationship high by not having a financial agreement.

I know that it doesn’t sound very nice, but these are the sorts of incentives people follow when making decisions. Taking this into account might change the sort of signal that this agreement provides.

A counter argument to this is – If your partner realises that you will only not sign a financial agreement because you don’t trust them, then signing the agreement surely signals that you trust your partner. If your partner values trust, then signing the agreement may make your partner want to stay in the relationship, when previously they wanted to ditch you.

Relationships, like firms, create complicated incentives, and rely on signals that barely ever match the intentions of the person providing them. That is why they provide such a fertile base for economic analysis šŸ˜‰

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