The Promise of Reward Crowdfunding

We study reward crowdfunding, the most innovative segment of the crowdfunding market, where, instead of a debt or equity contract, fund providers are promised some good or service in the future in exchange for their contribution to  the funding of the investment project under a contract that does not penalize the  creator’s failure to deliver. The existing economic and legal literature is puzzled  by the platforms use of this seemingly inefcient contract where a standard pre-sale contract would appear to work better. Counter intuitively, we prove that the  no-penalty contract is the optimal contract between creators of unknown talent  and early adopters of their products when creators can beneft from being discovered as talented and from the goodwill generated by delivering on their promise  to early adopters. Our analysis has important policy implications on how backers  should be protected. Standard measures of consumer or investor protection may be counterproductive.