Premuneration Values and Investments in Matching Markets

We analyze a model in which agents make investments and then match into pairs to create a surplus. The agents can make transfers to reallocate their pretransfer ownership claims on the surplus. Mailath, Postlewaite and Samuelson (2013) showed that when investments are unobservable, equilibrium investments are generally inefficient. In this paper we work with a more structured model that is sufficiently tractable to analyze the nature of the investment inefficiencies. We provide conditions under which investment is inefficiently high or low and conditions under which changes in the pretransfer ownership claims on the surplus will be Pareto improving, as well as examine how the degree of heterogeneity on either side of the market affects investment efficiency.