The Order of the Metaverse: A Perspective of Incomplete Contract Theory

Summary

This article understands the current Metaverse as a world of incomplete contracts, and constructs an incomplete contract theoretical model to analyze the order of the Metaverse. We compared four modes according to the degree of interconnection: the princely state mode, the United Nations mode, the unified mode and the blockchain mode. The main conclusions are: First, whether considering the investment in interconnection or considering the level of total social welfare, the blockchain model is better than the United Nations model, which is better than the princely state model; second, compared to large enterprises, small Enterprises are more willing to invest in interconnection; third, when the benefits of interconnection are relatively low, two companies forming a small metauniverse can bring more profits than three companies forming a large metauniverse. The research in this article shows that the Metaverse platform should be encouraged to become bigger and stronger, to strengthen interconnection, and to strive for the leadership in formulating international rules.

Article information: The Order of the Metaverse: A Perspective of Incomplete Contract Theory; Nie Huihua, Li Jing; “Industrial Economic Review”

1. Questions raised

2021 can be described as the first year of the Metaverse. In March, Roblox, a game platform company, was listed on the New York Stock Exchange and became the “first stock of Metaverse”; in April, chip company Nvidia released Omniverse, a virtual work platform for Metaverse; in October, the social media site Facebook (Facebook ) Announced that the company changed its name to Meta (Metaverse). In November, the software giant Microsoft launched its new video conferencing software Mesh for Teams to achieve a holographic experience. Chinese companies are also eager to enter the Metaverse field in various forms. Internet companies such as Tencent, Alibaba, Baidu, ByteDance, Huawei, and China Telecom may invest equity in the Metaverse platform (game) or prepare to develop related products. Industrial and commercial registration data show that at least 960 companies are applying for trademarks containing the name “Metaverse”, and the total number of applications is close to 6,400 (Tianyan Check Data Research Institute, 2021).

Currently, there is no unified definition of the Metaverse. It is generally believed that Metaverse is a new type of Internet application and social form that integrates a variety of new technologies. It provides an immersive experience based on extended reality technology, and digital twin technology generates a mirror image of the real world, builds an economic system through blockchain technology, closely integrates the virtual world and the real world in the economic system, social system, and identity system, and allows Each user performs content production and editing. Relatively speaking, it is not easy to define the Metaverse. Bauer, one of the earliest researchers of Metaverse, believes that Metaverse is not just a virtual world or VR (virtual reality), nor is it just a digital economy or game, nor is it just a new application (App) or User original content platform (UGC). In his view, Metaverse needs at least the following eight elements to support: hardware (such as AR, VR), network, computing power, virtual platform, exchange tools and standards, payment methods, content, services and assets, user behavior (including Consumption, investment and decision-making). Simply put, the Metaverse is a virtual world that is parallel to the real world and interacts with the real world. Optimistically speaking, Metaverse is the third-generation Internet after PC (computer) Internet and mobile Internet.

This article believes that the Metaverse at this stage has the typical characteristics of an incomplete contract.Because the current Metaverse is in a state of barbaric growth, lacking basic rules in many respects, and even breaking away from government supervision.

First, in terms of technical standards, there is a lack of interconnection rules. The essence of the Internet is Unicom, so the various small Metaverses developed on different platforms must be able to communicate to maximize their value.Since the metaverse industry is in its infancy, the compatibility standards of hardware and software between different metaverses, the conversion of users on different platforms, the payment standards inside and outside the system (such as tokens or NTF) and other important matters involving interconnection and interoperability, Neither consensus nor international standards have been formed, and can only be resolved through bilateral negotiations. Bilateral negotiations involve the calculation of investment costs and equity of all parties, but these key variables are often observable but not verifiable. For example, for gaming platforms, the daily user activity (DAU) that determines operating income is a number that can be measured and verified by companies in the industry, but the benefits it brings are difficult to verify to the outside world and cannot be transferred. In this sense, the daily activity of users is similar to the private income of corporate managers, such as on-the-job consumption, professional reputation, and human capital accumulation. It is an unverifiable and non-transferable variable.

Second, in terms of content, there are no clear moral and legal standards in the Metaverse. At present, the main content of Metaverse is a variety of games provided by major platforms (such as Roblox in the United States). Each player can develop the game by himself, the rules of the game are determined by himself, and there is fierce competition between the games, developers must be innovative. In this virtual world, players can do whatever they want, including fighting, killing, forming an army and building an empire.

Third, in terms of property rights, there are many ambiguities. Whether it is the confirmation of digital assets, or the ownership and use of user data, they are currently in a gray area of ​​the law. In addition, there is the problem of attribution of tort liability in the virtual world to the real world (similar to the problem of autopilot hitting a person), and there is also a lack of clear laws and regulations.

Fourth, in terms of international supervision, laws and regulations are very imperfect. In terms of real-world international trade, due to the different legal systems of various countries, differences in administrative management and huge coordination costs, international trade contracts are usually highly incomplete. In Metaverse, in addition to content compliance, it also involves currency issuance, taxation, ideology, terrorism and other issues related to national security and national sovereignty, and because digital technology can better cross international trade barriers, this leads to The international supervision of Metaverse is even more imperfect. Since Metaverse involves national sovereignty and national security, various countries will compete for control of the virtual world or the dominance of the Internet. This international game pattern will undoubtedly further aggravate the imperfections of Metaverse in terms of regulatory rules. And policy uncertainty. All in all, if all transactions, agreements, and interactions within the metaverse and between different metaverses are regarded as a contract, then this kind of contract reflects unforeseen factors and features that are difficult to describe to a large extent. And variables that are difficult to prove to a third party. This kind of contract is a typical incomplete contract.

In such a world of incomplete contracts, the question we care about is: What is the optimal order of the Metaverse?Specifically, if every company has established a small metaverse, what relationship can different metaverses coexist in?How do they interact? What kind of governance institutions can encourage companies to invest and maximize profits? In order to answer the above questions, this article focuses on the key issue of the Metaverse-interconnection issues. We assume that if two companies (small Metaverse) can achieve interconnection, it means that they have reached consensus on technical standards, content production, property rights, and transaction rules. Interconnection can be seen as an organizational boundary between integration and non-integration.

This paper constructs an incomplete contract model to study the order of the Metaverse. We focused on the issue of interconnection and compared four modes according to the degree of interconnection: the princely state model, the United Nations model, the unified model and the blockchain model. We assume that each enterprise (small Metaverse) can make two kinds of investments: one is enterprise-specific investment, which brings benefits by enhancing the characteristics of the enterprise; the other is interconnection investment, which will increase the coordination of enterprises Benefits, but will cause additional costs (for example, the use time of some in-depth users decreases).Therefore, each enterprise must weigh the trade-offs between specific investment and interconnection investment. The costs and benefits of both investments are unprovable, and their investment incentives depend on specific models. We found the following conclusions: First, whether considering the investment in interconnection or considering the level of total social welfare, the blockchain model is better than the United Nations model, which is better than the princely state model; second, compared to large enterprises , Small companies are more willing to invest in interconnection; third, when the benefits of interconnection are relatively low, two companies forming a small metauniverse can bring more profits than three companies forming a large metauniverse.

This article has contributed to the existing literature in the following three aspects.

First, this article enriches the application of incomplete contract theory. The classic incomplete contract theory assumes that the boundaries of a firm are constituted by the material assets it contains. This article expands the application of incomplete contract theory from two aspects. The first is to extend the theory of incomplete contracts to a virtual world that includes digital assets, and find that ownership of (digital) assets is also important in the virtual world. It will also affect the distribution of income and thereby affect investment incentives. The second is to discuss a new contractual relationship: interconnection, which is neither a completely independent non-integrated state of two enterprises, nor a state in which two enterprises merge into one enterprise. It is somewhat similar to the supply chain relationship or enterprise alliance between upstream and downstream enterprises.

Second, this article combines corporate theory with political economics literature. Hart recognized that under incomplete contracts, power is important and should be the core issue of corporate theory. However, when the existing enterprise theory discusses the boundary or internal organization design of the enterprise, the main power to discuss is the right to control assets. This article introduces national competition into the issue of interconnection among enterprises. In addition to discussing the issue of coordination between enterprises, it also discusses the issue of alliances between enterprises and the countries behind them, thus combining enterprise theory and political economy. In addition, although the existing literature discusses the issue of interconnection among telecommunications companies, they are all based on the perspective of industrial organization theory, without considering incomplete contracts and competition between countries.

Third, this article provides a mathematical model for the Metaverse literature. Although the metaverse has become a popular phenomenon, academic literature on metaverse is still very scarce. For example, Wu Tong and Wang Long believe that there are three shortcomings in the Metaverse built by large Internet platforms. They are too centralized, intensify data monopoly and financial penetration, and are difficult to solve interoperability problems (that is, the formation of their own closed small circles). It is believed that decentralization can be achieved based on blockchain technology, and the completion of data confirmation, pricing, and transactions should be the basic form of the future Metaverse. From the perspective of human development, Lu Peng pointed out that the Metaverse not only promotes the freedom of working time, but also promotes the freedom of working space, and even makes it possible for human beings to live forever in the virtual world. Fang Lingzhi and Shen Huangnan analyzed the technical and humanistic foundations of Metaverse, as well as the interaction between technology and humanities. In addition, they also discussed the inevitability of the realization of the Metaverse and the effect of the Metaverse on industrial development. Zheng Lei and Zheng Yangyang (discussed possible problems in the development of Metaverse, including the price of virtual digital goods that may lead to a widening income gap, decentralized blockchain technology is still difficult to use in medium and high-frequency trading situations, and the Metaverse Belt The coming social governance and supervision problems. Different from the above-mentioned documents, this article is the first article to construct a mathematical model of the Metaverse and discuss the governance model of the Metaverse from the perspective of economic efficiency.

The structure of the rest of this article is: Section 2 constructs an interconnection model from the perspective of incomplete contract theory; Section 3 compares four Metaverse models and draws the main propositions or inferences of this article; Section 4 is the conclusion And policy implications.

2. Model setting

1. Model assumptions

In a Metaverse, there are two participants. They are two enterprises or two small Metaverses, denoted as enterprise i, i ∈ {1,2}. Every company has some assets Ai , such as a deep active user base, patents, application scenarios, algorithms or equipment. These physical assets or digital assets can be verified and become a key variable for identifying the boundaries of a company. Each company can make firm-specific investment (firm-specific investment) e i , such as algorithms suitable for specific customer groups and rendering methods for certain virtual scenes, so that it can improve its own value by shaping the characteristics of games or social platforms ; It is also possible to make interconnection investments o i , which can increase the coordination benefits between the two companies by improving the compatibility with the other company in terms of technology, equipment, content, etc. and reducing user switching costs. If two companies are interconnected, then the profit of each company is:

The Order of the Metaverse: A Perspective of Incomplete Contract Theory

Among them, j=3-i, representing another enterprise. The first item on the right side of the equation (1) represents the benefits brought by enterprise-specific investment, the second item represents the benefits brought by interconnection, the third item represents the additional cost of the company’s promotion of interconnection, and the fourth item represents the company’s additional costs. Total investment cost. The reason for this setting is: Assuming that the benefits of a company’s dedicated investment are positively related to its number of users, application scenarios and other assets; interconnection can bring users a richer and more convenient experience and create greater value for users. This part of the income has a positive relationship with the original business volume of the two companies and the interconnection efforts made by the two companies, where μ∈[0,1] represents the coordination efficiency; the investment made by the company i for interconnection may be It will lead to the loss of a certain amount of original income. This part of the loss is related to corporate assets. For example, open source part of the code means abandoning part of the right to charge, allowing users to transfer freely, and there is a risk that deep users will transfer part of their energy to other platforms, and so on. For companies like Apple that have formed an independent ecosystem, the number of users is relatively stable. Continued optimization on the original system will bring high benefits. Once open to competitors, it may have a greater impact on the original business. At this time, α i and δ i are large, and β i is small; conversely, for some start-ups, α i and δ i are small, and β i is large.

Since there is no uniform laws and regulations in Metaverse, and the virtual environment in which it is located is very complex and unique, the investment level, investment cost and income of the enterprise are observable by both parties but difficult to verify to a third party. For example, a company reduces the cost of user switching in order to interconnect with the other company, but the costs and benefits of this effort are difficult to prove by the court or other third parties.This means that the information between the two parties is symmetrical, but any agreement or transaction between the two parties is an incomplete contract.

If the enterprise puts effort in e_i and o_i, but ultimately the systems of the two enterprises are not interconnected, the profit of enterprise i is as follows. At this time, the enterprise does not have the benefits of interconnection, but it does not need to bear the additional cost of interconnection.

The Order of the Metaverse: A Perspective of Incomplete Contract Theory

For the sake of simplicity, suppose that the game between the two companies only lasts for one period, and there is no wealth constraint on both sides, and discounts are not considered. The game sequence is as follows: (1) On date 0, two companies sign a contract to determine their relationship or property structure based on assets; (2) On date 1, two companies make specific investment and (or) ) Interconnection investment; (3) On date 2, the two companies re-negotiate and distribute the benefits (if any) generated by interconnection based on their relationship, and ultimately both companies maximize their profits.

2. Four modes

We will discuss four modes (as shown in Figure 1) between two or more companies, or four governance structures. (1) Ducal states mode: Two companies remain independent, but each company can communicate with each other one-way, and the other cannot refuse. If Unicom occurs, each enterprise will receive the coordination benefits brought by Unicom separately, but must bear the cost of Unicom separately. The party that accepts one-way connectivity can get additional coordination benefits without having to pay for it. (2) United Nations mode: Each enterprise remains independent, and can be interconnected if and only if both parties agree. Since the costs and benefits of investment are unproven, renegotiations will occur when the benefits of interconnection are distributed. One party can reject the threat of interconnection and ask for more rent. This is called holdup. We follow the practice of the existing literature, assuming that the two parties allocate the additional benefits generated by interconnection according to the Nash bargaining solution during the renegotiation, that is, each enterprise gets half of the cooperation surplus. (3) Single mode: When enterprise 1 merges with enterprise 2, it acquires all the assets of enterprise 2. At this time, the two enterprises become two relatively independent business units within one enterprise. Enterprise 1 can decide whether to conduct interconnection, and the two parties will distribute and coordinate benefits in accordance with Nash negotiation. This means that the managers of enterprise 2 have a certain degree of human capital specificity, so even if they lose the ownership of their assets, they have certain bargaining power. (4) Blockchain mode: With the help of the verifiability of blockchain technology, all costs and benefits can be verified. At this time, both parties sign a smart contract (smart contract) beforehand. contract), and then distribute the benefits generated by interconnection according to a certain rule, without bargaining issues. If interconnection does not occur, there is no revenue sharing. Note that in all four modes, interconnection is an endogenous decision of each enterprise. Since the two parties can anticipate their respective investment costs and benefits, and can always negotiate after the fact, the rational two parties must choose a contractual arrangement that maximizes the total profit on date 0. This means that when we solve the game problem in each mode according to the reverse induction method, the solutions we get are the optimal solutions under the constraints. Then, we compare the optimal solutions in different modes to find the mode that can maximize social welfare.

The Order of the Metaverse: A Perspective of Incomplete Contract Theory

(1) Situation 1: Socially optimal

As a ruler, we first consider the most ideal situation “first best” (first best). In the socially optimal situation, there is no information asymmetry, incomplete contracts and conflicts of interest, and the coordination efficiency reaches the highest value1. The total profit of the largest two enterprises is obtained by the mathematical plan for maximizing social welfare:

The Order of the Metaverse: A Perspective of Incomplete Contract Theory

The Order of the Metaverse: A Perspective of Incomplete Contract Theory

The Order of the Metaverse: A Perspective of Incomplete Contract Theory

Since we mainly focus on interconnection investment o i , for simplicity, assuming that for i ∈ {1,2}, (βi+βj) Ai Aj-αi Ai<αi δi Ai2, there is no need to consider the specific investment ei Corner solution. At this time, the social welfare level constituted by the total profits of the two enterprises is:

The Order of the Metaverse: A Perspective of Incomplete Contract Theory

(2) Scenario 2: The vassal state model

After all, social optimality is just an ideal situation. Therefore, next we consider four possible four modes in the present and future Metaverses. First consider the vassal state model. At this time, the investment level, investment cost and return of each enterprise are unprovable, and the two enterprises are in an incomplete contract state. Each enterprise makes specific investment and interconnection investment non-cooperatively. Every enterprise cannot prevent the one-way connection of the counterparty, and can obtain additional coordination benefits from the one-way connection, but it cannot threaten to suspend the connection afterwards for holding up. Under the vassal state model, the profit maximization problem of firm i is:

The Order of the Metaverse: A Perspective of Incomplete Contract Theory

(3) Situation 3: United Nations model

Under the UN model, the two companies remain independent. Different from the vassal state model, at this time, only the two parties agree to achieve interconnection. If interconnection and interoperability are achieved, the two parties will distribute and coordinate benefits based on the Nash negotiation under the incomplete contract; if interconnection and interoperability are not achieved, both parties will only obtain the benefits of specific investment, and there will be no one-way connectivity benefits. At this point, the plan of enterprise i becomes:

The Order of the Metaverse: A Perspective of Incomplete Contract Theory

(4) Scenario 4: Great Unification Mode

In the grand unification model, suppose enterprise 1 merges with enterprise 2. After the two companies are merged or integrated, company 1 has acquired all the assets of company 2 and has control rights. The two companies have changed from a market relationship to a contract within the company, which is equivalent to two business units within a company. They are still operating independently and making independent decisions. The two parties negotiated under the incomplete contract to resolve the distribution of interconnection brought by Nash. The net income. But there are two changes: First, enterprise 1 has obtained more assets from enterprise 2, thereby increasing its specific investment income and interconnection income. This can be understood as an increase in assets leading to an increase in outside options; Second, after the enterprise 1 merges with the enterprise 2, the price mechanism can be replaced by an order or authority mechanism, thereby greatly improving the efficiency of internal coordination, making the efficiency coefficient μ of interconnection reach the maximum value of 1.

Then, the planning problem of enterprise 1 becomes:

The Order of the Metaverse: A Perspective of Incomplete Contract Theory

(5) Scenario 5: Blockchain model

Blockchain is an Internet-based transaction accounting method, which has the characteristics of distributed, tamper-proof and anonymity. Assuming that with the maturity of blockchain technology, companies can complete information mutual recognition at no cost, that is, the investment cost and income of the company and the parameters α i , β i , and δ i can be verified to a third party, and enterprise i can be verified through intelligence The contract designs a payment rule that automatically pays enterprise j based on oj without post-negotiation. Assuming that enterprise 1 formulates the rules, the game sequence is as follows. On date 1/3, enterprise 1 sets the profit transfer coefficient τ,τ∈[0,1]; on date 2/3, enterprise 1 and enterprise 2 select investment levels e i and o i respectively ; on date 1, the two parties are interconnected Intercommunication, output realization,

In period 1, τ has been determined. At this time, the planning problem of enterprise i is:

The Order of the Metaverse: A Perspective of Incomplete Contract Theory

3. Conclusions and policy implications

The metaverse represents people’s vision for the next generation of the Internet, so the study of metaverse has very important theoretical significance and practical value. This article understands the Metaverse as a world of incomplete contracts, and discusses what is the optimal Metaverse order. We compared the governance structures of four Metaverses: the vassal state model, the United Nations model, the unified model and the blockchain model. We believe:

(1) The blockchain model is better than the United Nations model, and the United Nations model is better than the vassal state model;

(2) Compared with large enterprises, small enterprises are more willing to invest in interconnection;

(3) When the cost of coordination is high, the formation of an alliance between two enterprises and the confrontation with the third enterprise is a kind of equilibrium.

The research in this article provides important policy implications for the governance of the Metaverse and for our country’s fight for the dominance of the Internet.

First, different developments have different best models of Metaverse. In the early stage of the development of the Metaverse, the scale of each Metaverse platform was small, and the scale effect was not significant. At the same time, the dedicated investment of each Metaverse platform was very important. At this time, the model of the vassal state was the best; in the middle of the Metaverse development, The scale effect of Metaverse is relatively obvious, while the importance of dedicated investment declines. At this time, the unified model is the best; in the mature stage of the development of Metaverse, the network externalities brought about by interconnection are more important, and the interconnection is more important. The rules have gradually formed a consensus, and the blockchain model is the best at this time.

Secondly, to promote the vigorous development of the metaverse platform industry, the key is to promote the implementation of blockchain technology, improve the coordination efficiency between metaverse platform enterprises, and encourage the uniform development of metaverse enterprises. At present, my country’s Metaverse industry has certain advantages in terms of hardware equipment, but there is a lack of interconnection among Metaverse platforms, and the scale of enterprises is uneven. The next step of the policy is to encourage the prosperity of Metaverse enterprises and prevent a single one from becoming dominant, so that the efficiency of the entire industry can be improved through homogeneous competition.

Third, encourage the expansion of the domestic Metaverse platform, and take advantage of the large number of Chinese netizens and the advanced digital economy to go further out of the country and strive for the dominance of Metaverse’s international rules. At present, American companies have a technological advantage in the Metaverse industry, and the Korean and Japanese governments attach great importance to this. For example, on May 18, 2021, the Ministry of Science, Technology and Information and Communication of South Korea initiated the establishment of the “Metaverse Alliance” with members including more than 500 companies and organizations including Samsung, Korea Telecom (KT), SK Telecom, Hyundai Motor, etc. The Ministry of Economy, Trade and Industry of Japan issued the “Investigation Report on the Future Possibilities and Issues of the Virtual Space Industry” to guide the development of the metaverse industry. China must use its late-comer advantages to catch up. On December 21, 2021, the Shanghai Municipal Party Committee’s Economic Work Conference pointed out that it is necessary to guide enterprises to step up research on important platforms for the interaction between the virtual world and the real society in the future, and attach great importance to the dominance of technology iteration, industry standard definition rights, and value pattern distribution of terminal products. right. We believe that this is a very far-sighted policy.

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