Identifying the Mechanisms of Extralegal Enforcement

This paper studies the mechanisms by which a community enforces contracts absent a formal legal authority. The canonical examples of private ordering involve ethnically homogeneous communities with strong internal ties. This commonality raises the question: Are these ties necessary for successful private-ordering? Drawing on a unique dataset of anonymous and unsecured online peer-to-peer loans, this paper shows that forward-looking economic self-interest is primarily responsible for facilitating repayment. The paper argues that historically, community ties played an important role in facilitating this economic mechanism by transmitting reputational information. However, private ordering can thrive absent these ties so long as there is another mechanism for transmitting this information. Rather than requiring strong community ties, private ordering can succeed with the combination of repeated economic interaction, a reliable information transmission mechanism, and costly entry.