The Herding Effect In Crowdfunding Platforms

Online crowdfunding platforms such as Kickstarter.com are filled with thousands of potential projects, and it may be hard to tell which ones will actually be successful and take off. On such platforms, individual backers select projects to which they donate money. Once a project receives 100% funding, all of the backers get some reward, such as premium access to the product. There is risk when a project has not received 100% funding: under the all-or-nothing platform model, if the project does not receive all the money, the entrepreneur returns all of the money and the backers get their cash back. They have wasted time (people have to wait months of years to realize a return on their investment) and capital, and have received no product in return. And, even when a project has reached 100% funding, the product may not actually be successful and what was promised. For these aforementioned reasons, it is important to ask how backers select the projects that they fund: it is important to somehow tell whether a project is good or bad.

However, people are actually able to see the level of funding that has been pledged to a project, and for this reason, it may actually be advantageous to model this scenario as an information cascade. Per the model described in the textbook, there is a true state of the world, in which the project is either successful and the product launches, or the project is bad and a bad product. A high signal in this case would be a promising description, or great pictures on the project page. Furthermore, actually pledging money to the project would be accepting in this case. Herding occurs when a project attracts more backers and more backers subsequently want to pitch in because people before have already pledged their money. People base their decisions off of the fact that many previous individuals have backed money, and for this reason, we expect that funding picks up as more people have previously donated. This is an information cascade: based on their own private signals and the actions of previous people (accepting), people have their choices influenced by those before them. One after another, people receive their signals, decide that they like the project, and then accept and back the project. 

At the high end of the spectrum, once a project has completely fulfilled its funding goals, it will actually receive the money and people should be more incentivized to pitch in due to the herding effect: based on the fact that a lot of people have previously given money and that the project has completely fulfilled its funding, people should be more willing to pitch in at 100% funding (since we are assuming that the cash will help the entrepreneur, and that even at 99% the project will not receive the money, even at 100%). There is indeed evidence that, once a project already has reached 100% funding, people are more willing to pitch in. This is because backers know the project already has a higher chance to be successful, that many people have already joined in, and that there is significantly less risk. You already “know that you are backing a [potential] winner,” and therefore herding has kicked in. People see the decisions of earlier people, assume that they have made a good choice, and follow in. Thus, herding should increase or especially kick in when a project has achieved all of its funding.

However, this article takes a twist and suggests that another factor may also be at play. If herding is at play, we should expect to see more funding more rapidly once a project is already over 100% funding (since people want the same perks but the risk is significantly less because the product will receive the money). There should be less funding when a project is from 95 to 100% funding. This is because when a project is over 100% it is probably already a winner. The study found that, it actually took LONGER for projects to move from 100% to 105% funding than 95% to 100% funding. They attributed this to the fact that people actually want to see projects succeed, and to help entrepreneurs. Therefore, altruistic measures have outweighed herding mentality and economic incentives. Specifically, Kickstarter projects took 2.39 times longer to move from 100% to 105% funding than from 95% to 100%, surprisingly. Even though it makes more sense economically to donate to a project that has already fulfilled its funding (because other people have vetted it and have donated their money) under the herding model, it seems that individuals are often altruistic and will donate when the project has not completely attained its funding goals.

Source:

https://www.anderson.ucla.edu/faculty-and-research/anderson-review/kickstarter