Collusion at Champagne: or Who Will Monitor the Monitors?a Lesson from History
Abstract: Monitors hired to minimize cheating are themselves vulnerable to collusion and extortion. In this paper we first attempt to understand why an important historical institution – that of the trade fairs at Champagne with their private judges – survived for centuries instead of instantly crumbling in the face of overwhelming incentives to collude – and then derive implications for the larger problem of “monitoring the monitor”. We argue that the seminal paper on the Champagne fairs –by Milgrom, North and Weingast – is not collusion-proof and hence cannot explain the survival of this institution. Drawing on historical evidence we build a model which better fits the historical reality of the Champagne fairs and is invulnerable to collusion, extortion and “reverse extortion” (unscrupulous clients threatening to smear a monitor’s reputation unless bribed). Our model contains a competing fair and a guild. We contrast our insights with other literature on collusion. Our analysis highlights the crucial roles of competition among monitors, the existence of a collective body to organize coordinated punishment of monitors caught colluding, and network effects among a monitor’s customers that would exacerbate any punishment.