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Econometrica, Vol. 68, No. 5 September, 2000 , 1181᎐1229
A NONCOOPERATIVE MODEL OF NETWORK FORMATION
1
BY VENKATESH BALA AND SANJEEV GOYAL
We present an approach to network formation based on the notion that social
networks are formed by individual decisions that trade off the costs of forming and
maintaining links against the potential rewards from doing so. We suppose that a link with
another agent allows access, in part and in due course, to the benefits available to the
latter via his own links. Thus individual links generate externalities whose value depends
on the level of decayrdelay associated with indirect links. A distinctive aspect of our
approach is that the costs of link formation are incurred only by the person who initiates
the link. This allows us to formulate the network formation process as a noncooperative
game.
We first provide a characterization of the architecture of equilibrium networks. We
then study the dynamics of network formation. We find that individual efforts to access
benefits offered by others lead, rapidly, to the emergence of an equilibrium social
network, under a variety of circumstances. The limiting networks have simple architec-
tures, e.g., the wheel, the star, or generalizations of these networks. In many cases, such
networks are also socially efficient.
KEYWORDS: Coordination, learning dynamics, networks, noncooperative games.
1. INTRODUCTION
THE IMPORTANCE OF SOCIAL AND ECONOMIC networks has been extensively
documented in empirical work. In recent years, theoretical models have high-
lighted their role in explaining phenomena such as stock market volatility,
collective action, the career profiles of managers, and the diffusion of new
products, technologies and conventions.2 These findings motivate an examina-
tion of the process of network formation.
We consider a setting in which each individual is a source of benefits that
others can tap via the formation of costly pairwise links. Our focus is on benefits
1 A substantial portion of this research was conducted when the first author was visiting Columbia
University and New York University, while the second author was visiting Yale University. The
authors thank these institutions for their generous hospitality.
We are indebted to the editor and three anonymous referees for detailed comments on earlier
versions of the paper. We thank Arun Agrawal, Sandeep Baliga, Alberto Bisin, Francis Bloch,
Patrick Bolton, Eric van Damme, Prajit Dutta, David Easley, Yossi Greenberg, Matt Jackson,
Maarten Janssen, Ganga Krishnamurthy, Thomas Marschak, Andy McLennan, Dilip Mookherjee,
Yaw Nyarko, Hans Peters, Ben Polak, Roy Radner, Ashvin Rajan, Ariel Rubinstein, Pauline
Rutsaert, and Rajeev Sarin for helpful comments. Financial support from SSHRC and Tinbergen
Institute is acknowledged. Previous versions of this paper, dating from October 1996, were circulated
under the title, ‘‘Self-Organization in Communication Networks.’’
2 For empirical work see Burt 1992 , Coleman 1966 , Frenzen and Davis 1990 , Granovetter
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1974 , and Rogers and Kincaid 1981 . The theoretical work includes Allen 1982 , Anderlini and
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Ianni 1996 , Baker and Iyer 1992 , Bala and Goyal 1998 , Chwe 1998 , Ellison 1993 , Ellison and
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Fudenberg 1993 , Goyal and Janssen 1997 , and Kirman 1997 .
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