What is the free-rider problem?

The free-rider problem is when people benefit from something without paying for it, because they can. If a public good will exist whether or not you personally chip in, the rational move is to let others pay. When everyone reasons this way, the good never gets made.

How does the free-rider problem show up in crowdfunding?

As wait-and-see backing. Since pledging early earns nothing extra, the rational move is to wait until a campaign looks likely to succeed. If everyone waits, the campaign stalls and fails, even when enough people wanted it to succeed.

How do you solve the free-rider problem in crowdfunding?

Pay a refund bonus. In a dominant assurance contract, backers of a failed campaign are refunded plus a bonus, so backing early is rewarded rather than penalized. Experiments have found refund bonuses can raise campaign success rates by 50% or more.

Does Pieces solve the free-rider problem?

Pieces is built on dominant assurance contracts. Bonders stake money behind a creator, and if a Piece fails to fund, backers are refunded plus a share of those forfeited bonds. Backing is the rational move either way.

The Free-Rider Problem in Crowdfunding, and How to Fix It

Crowdfunding campaigns fail when everyone waits for someone else to pledge first; paying backers a refund bonus when a campaign falls short removes the incentive to wait.

The free-rider problem is the oldest failure mode in funding shared things: everyone wants the lighthouse, nobody wants to be the one who pays for it. In crowdfunding it wears a subtler costume. It looks like thousands of people who genuinely want a project to exist, all waiting for someone else to pledge first.

The lighthouse, updated

A public good is anything you cannot exclude people from enjoying once it exists. A lighthouse, open source software, a podcast, a song released to the open internet. Since you get it whether or not you paid, the individually rational move is to not pay. Economists call the people who reason this way free riders, and the tragedy is that they are not villains. They are just responding to the incentives as given.

How it kills crowdfunding campaigns

Kickstarter-style crowdfunding, the assurance contract, was a real improvement: your pledge is only taken if the goal is met, so money is never wasted. But it left the timing problem untouched.

Backing a campaign early gets you nothing that backing it at the last minute does not. So the smart move is to wait, watch the progress bar, and commit only once success looks likely. Every backer who waits makes the campaign look weaker, which makes the next backer wait too. Campaigns die of hesitation, not indifference. The project fails, and everyone who quietly wanted it loses.

The fix: make backing the dominant strategy

Economist Alex Tabarrok’s insight was that you can dissolve the free-rider problem by changing one payoff. In a dominant assurance contract, backers of a failed campaign are refunded plus a bonus, called a refund bonus.

Run the reasoning again with that rule in place. Think the campaign will succeed? Back it, you get the thing. Think it will fail? Back it anyway, you collect the bonus. There is no scenario where waiting beats backing, which is what economists mean when they call backing a dominant strategy. Laboratory and field experiments on refund bonuses have found they can raise campaign success rates by 50% or more.

How Pieces puts it into practice

On Pieces, the refund bonus is not funded by the platform or the creator’s pocket. Bonders stake money behind a creator they believe in. If the Piece funds, bonders earn a kickback. If it does not, their forfeited stakes are paid out to backers as the bonus. The people most confident in a creator are the ones underwriting everyone else’s confidence.

See the full mechanism in how Pieces works, or compare it directly to ordinary crowdfunding in Pieces vs Kickstarter.