there are rather robust relationships among trust, trustworthiness, and the per-capita expenditures of a typical household (a measure of household well-being). Surprisingly, however, trust and trustworthiness have different impacts on household expenditures, depending on whether the household is located in a rural or urban village. In an urban setting, a 10 percent increase in trust (measured by the average share of budget sent by the senders in that village) is associated with a 2.4 percent increase in expenditures. Alternatively, in a rural setting, a 10 percent increase in trust is associated with a 2 percent decrease in household expenditures. Similarly, reciprocity has different impacts on household expenditures in urban and rural settings. In an urban setting, increasing reciprocity (as measured by the share of the pot that is returned) by 10 percent is associated with a 7 percent increase in household expenditures, whereas in a rural setting it has virtually no effect.

It is difficult to understand how trust or reciprocity could be a bad thing in rural villages. One potential explanation is that in rural villages, one is related to many of those one comes in contact with and is closely socially connected to a large percentage of those in the village. Being trusting in this case has little return because of the limited number of social connections one might have. Beyond this, it may be that the level of trust allows substantial moral hazard. Moral hazard occurs when a person can take actions that are not fully observed by others but that affect the welfare of both the actor and others. A trusting rural village might mean that people generally assume that everyone will perform their civic and economic duties and not need to monitor others closely. A less-trusting village will monitor more closely whether villagers are actually performing their work—potentially leading to higher returns for all. Alternatively, in an urban area very few are related. This means that trusting others might allow you to gain a wider social network, potentially creating some substantial individual returns. Other similar studies have found that societies that engage in market-style production are relatively more trusting societies. It may be that this also depends upon whether the society is more isolated and rural or more integrated and urban.

Trust in the Marketplace

Much has been hypothesized and written about the impact of trust and trustworthiness on the functioning of the markets. Consider, for example, one of the simplest business transactions: hiring a kid down the street to paint your living room. First off, although painting is a relatively simple task, it does require some skill and preparation to do it right. One must be careful to cover surfaces that will not be painted. Spreading dropcloths over the floor and furniture is relatively easy, but if the painter isn’t careful, the drop cloth can slide and expose the wrong surface. Borders and trim must be taped, and the painter must make sure that paint is applied evenly without drips. Each of these requirements could be explained to an average teen with little difficulty.

At that point, if the homeowners trusts the teen, they could leave her with the necessary materials believing she will do a good job, returning to pay her when the job is completed. But if the homeowner doesn’t trust the teen to take the proper care in following instructions or to put in the relatively low effort but high attention to detail required, then the

homeowner will need to monitor the work. Thus, instead of leaving to complete their own work for the day, the homeowner will need to stop in every half hour or so and see that the painter is complying with the instructions. In this case, the homeowner is paying not only with money for the work but also with time and hassle. Note, though, that the time spent in monitoring is not directly beneficial to either the homeowner or the painter.

This time spent monitoring constitutes what economists call transactions costs. The potential exists for trust to reduce transactions costs, allowing a larger benefit to both the painter and the homeowner. In this case, if the transactions costs of employing the kid down the street are high enough, the homeowner might instead hire a professional painter. This professional painter may be more expensive but should require less monitoring or instruction. Websites like Angie’s List provide customer feedback about various service firms specifically to reduce the transactions cost for firms by identifying those that are untrustworthy and those that are trustworthy.

Of course, transactions costs and trust are not limited to service industries. Consider the more-complicated transaction of purchasing a used car from a dealership. If the dealer and the buyer both trusted each other fully, the buyer could walk into a used car dealership, identify the cars she was interested in, ask the dealer about their condition, and agree to make payments on the car she wished to buy. Instead, the lack of trust has made buying a used car much more of a hassle. First, a typical used car buyer will do substantial research about the value of various used cars to determine what reasonable prices are available. This might involve buying access to reports on the quality or value of cars such as the Kelley Blue Book or Consumer Reports. Then, once selecting a potential candidate vehicle and determining that the used car dealership is willing to sell at a reasonable price, the buyer often pays to have an independent mechanic inspect the vehicle to determine whether the dealer is giving an accurate report of the condition of the vehicle. Finally, once the vehicle is determined to be in working order and the dealer has accepted the buyer’s offer, the dealer pays a credit agency to determine if the buyer can be trusted to fulfill the obligation to make payments on a car loan. Consider the amazing amount of time and resources consumed by a lack of trust in this transaction. Indeed, some researchers have found that real estate transactions between family members occur at substantially lower costs than those occurring generally, often saving the buyer up to 30 percent of the cost.

Trust is perhaps one of the reasons people place such high value on brand-name goods. A brand name is tied to a reputation for quality. A firm faced with a customer complaint is motivated to satisfy the customer in order to maintain the reputation for trustworthiness they have developed with their customer base. Firms that fail to deliver on customer service or fail in delivering the promised quality quickly lose that reputation and their customers. This can also explain why people tend to develop longer-term business relationships with a mechanic or a physician. Both of these services require a substantial amount of trust. A mechanic may be hesitant to sell you unneeded repairs if there is the possibility of losing years of future business. Customers who just randomly choose whatever mechanic they happen on might not be so lucky. To this end, many economists expect that developed economies and well-functioning markets are predicated on a certain level of trust existing between generic actors in that economy. Without that trust, economic transactions are burdened by unnecessary transactions costs that can diminish everyone’s well-being.

EXAMPLE 16.4 Whom Do We Trust?

Often we have just a few seconds to determine whether we will trust someone or not. Whether it be asking a stranger for directions, determining whether to help a stranded motorist, or determining whether to patronize a street vendor, we have a need to assess a person’s trustworthiness almost instantaneously. In fact, in a typical day walking through a city we can come into contact with hundreds of people to whom we must quickly decide whether we can trust our personal safety and well-being. How can we make so many decisions so fast? In the absence of more-accurate information, people often retreat to the superficial: what we can see. Thus, we look to see if the person smiles and looks generally friendly. We also, unfortunately, look to classify the person by categories: class, sex, race, or external clues of religion.

One example of this can be found in the research of Damian Stanley, Peter Sokol Hessner, Mahzarin R. Banaji, and Elizabeth Phelps. As part of their work, they engaged 43 participants in a psychological experiment in which they would play a modified version of the trust game. Participants were to play the sender role and were shown a picture of their receiver (because the experiment was conducted by psychologists, no receivers actually participated). Senders were told that receivers would receive four times as much as they sent. Receivers then either returned half of the amount they received or returned nothing. The sender could then choose how much of their original endowment to send. The pictures of the receivers were varied by race, so that sometimes senders believed they were playing with a black receiver, and sometimes they believed they were playing with a white receiver.

Interestingly, there was no real difference in the amounts sent on average to white and black receivers ($3.75 versus $3.74). Even if we looked just at white senders, or just at black senders, there was no difference in the amounts sent on average. Other measures of trust based on survey responses to questions of how trustworthy a person appeared were also similar across race. Additionally, participants were asked to play a wordassociation game designed to test whether they associate more negative or positive feelings with those of white or black races. This measure of racial bias was associated with racial bias in both offers in the trust game and with assessments of trustworthiness. This provides us some evidence that race can be taken (at least by some) as an indicator of trustworthiness and thus can affect transactions costs and economic well-being.

Olof Johansen-Stenman, Minhaj Mahmud, and Peter Martinsson ran several experiments along the same vein using the trust game in Bangladesh, where nearly 90 percent of the population is Muslim, though there is a substantial Hindu minority. They examined the impact of pairing Muslims with Muslims, Hindus with Hindus, and Hindus with Muslims in the trust game to see the impact both on trust and trustworthiness, finding some weak evidence of differences between religions, displayed in Table 16.2. Although some patterns appear to emerge, the samples were small enough that none of these differences in trust could be considered to be outside the margin of error.

Edward Glaeser and a team of researchers also examined the impact of race on trust and trustworthiness in the United States. Although differences in gender had little impact on either trust or reciprocity, they find that if the sender and receiver are of different races, the receiver is likely to return less money to the sender. In their analysis they

Source: Johansson-Stenman, O., M. Mahmud, and P. Martinsson. “Trust and Religion: Experimental Evidence from Rural Bangladesh.” Economica 76(2009): 462–485, John Wiley & Sons, Inc.

examined pairs where the sender was white and the receiver was of another race, as well as those where the sender was not white and the receiver was white. In both cases, they observed a 10 percent reduction in the amount returned relative to when a white sender was paired with a white receiver. Others have studied the impact of gender, finding that women display more reciprocity than men and that men are generally more trusting.

Biologists have long thought of trust as evolutionary behavior. In this line of thought, trust develops as a way to promote evolutionary fitness. This line of thought suggests that people over generations should become hardwired to promote the well-being and survival of others to whom they are related. Lisa DeBruine examined this in a set of trust game experiments. These psychology experiments1 involved participants playing the trust game and being shown photos of people whom they were told were their partner in the game. Before playing the game, participants were photographed. Then, participants were shown pictures of their supposed partner that in actuality were randomly selected photos of other people that had been altered to contain some characteristics of the participant’s own features. This same photo was also used in another trust game played by another participant as a control. In fact, participants were much more trusting of the partners whose photos had been manipulated to look like themselves than they were of partners whose photos had not been altered.

This might explain a potential tendency toward racial bias in trust games as well as some of the human need to dress and look like we fit in with those around us. Moreover, it can explain the real importance of providing advertisements and promotional materials that represent a broad set of demographics. Narrowly focusing advertising around a small demographic might fail to generate the trust and familiarity desired with any other group; customers might think “They simply don’t look like me.”

EXAMPLE 16.5 The Benefits of Blame

Contractual relationships necessarily involve trust. In fact, contracts themselves are designed to increase the level of trust between the two parties for the mutual benefit of both. To increase this trust, the contract often specifies penalties that will occur if a contracting party chooses not to fulfill their part of the contract. In such cases, they are said to be at fault, generally releasing the other party from their agreement and assessing a penalty to the party who is at fault. The entire point of the contract is to enhance the certainty that both parties can be trusted to complete their promised actions. But if

1 Economic experiments do not permit deception such as that which occurred in the experiment described. However, deception such as this is common in psychology experiments.

the penalties for breaking the contract are too small, one party might decide to betray the trust of their partner. Moreover, if a contract can be broken without assigning fault, it becomes much less useful in creating trust.

The opposite of reciprocity is opportunism, defined by some as self-interest unconstrained by moral considerations. An opportunistic receiver when playing the trust game immediately takes the whole pot, not considering the impact on or expectations of the sender. In a contract, one signer often has the opportunity to take substantial gains at the expense of the other signer. Consider what would happen in the trust game if the parties could agree beforehand to split the additional returns evenly. Thus, if no contract is signed, the game is played as described previously. If the contract is signed, senders agree to send all of their money, facing a penalty y that will be given to their receiver if they break their promise. The receiver, who then plans on receiving three times the amount sent, agrees to return two times the amount sent or face a penalty of z that will be given to the receiver. Then, after signing the contract, the parties play the trust game, with the added threat of penalties.

We already know that without the penalties, the Nash equilibrium strategies result in no money being sent and no money returned. Suppose x is the amount sent by the sender. If a contract is signed, the receiver then chooses either to return r ≥ 2x and receive 3x − r, or return r < 2x and receive 3x − r − z. In this case, opportunistic receivers would maximize their payout by selecting either r = 2x, if 3x − 2x = x ≥ 3x − z, or r = 0 otherwise. So long as z>2x, the opportunistic receiver would choose to comply with the contract. In this case senders would choose to send as much as possible and would double their money. In this case, the possibility of the receiver being found at fault can reduce the risk from trusting the receiver and can lead to a mutually beneficial outcome. Even in the absence of the contract, we observe that senders trust receivers and often earn a return. However, the contract can make trust less of an issue given the threat of legal action.

One form of contract in which the ability to seek a finding of fault has eroded over time is marriage. In marriage, spouses have traditionally contracted to abstain from outside sexual relationships and to divide labor for the welfare of their family. Though not explicit in law, this traditionally involved a man providing material support through labor or employment and a woman providing domestic labor and rearing of children (the most precious investment of the venture). Although it is ideally built on love and trust, until the last several decades marriage also had the force of law to encourage trust. Marriage could only be ended by an injured party suing the spouse for divorce and proving that the spouse was at fault. Fault could be found for abandonment, adultery, or abuse. Unless you could show that your spouse was guilty of one of these violations of the marriage covenant, you were required to continue in the marriage agreement. Moreover, if the spouse was found at fault, he or she would face a severe penalty in the divorce— either monetary or due to the impacts on long-term social reputation. Such a threat could lead one who is on the fence with regard to the marriage to consider deeper investments in the marriage relationship. Alternatively, the threat of penalties resulting from divorce could lead one to feel more secure or apt to enter a marriage with someone who otherwise might behave opportunistically.

In all states, it is now possible to file for a no-fault divorce. In this case, the marriage is dissolved, and property is divided for the most part without respect to how much effort the spouse put into maintaining the marriage. Instead, the no-fault divorce option