Bounded Rationality and Industrial Organization

by Spiegler, Ran

• ISBN13: 9780195398717
• ISBN10: 0195398718
• Format: Hardcover
• Copyright: 2011-02-18
• Publisher: Oxford University Press

Summary

Consumers can act rationally only to a certain extent. They may have inconsistent, context-dependent preferences, or simply not enough brain-power to evaluate and compare complicated products. Thus the standard model of consumer behavior-which depends upon an ideal market in which consumers are boundlessly rational-is outdated. While behavioral economists have for some time confirmed and characterized these inconsistencies, the logical next step is to look at the implications they have in markets. This is the objective of Bounded Rationality and Industrial Organization . Grounded in key observations in consumer psychology, the book develops non-standard models of "boundedly rational" consumer behavior and embeds them into familiar models of markets. It then rigorously analyzes each model in the tradition of microeconomic theory, leading to a richer, more realistic picture of consumer behavior. The book is structured as a collection of lectures for graduate and advanced undergraduate courses, but will also appeal to readers familiar with the topic, as it advances the current literature in the field. Ran Spiegler's contribution will be a welcome and fresh insight into why real consumers act the way they do, and what this means for the markets they inhabit.

Author Biography

Ran Spiegler is Professor of Economics at Tel Aviv University and University College London.

Table of Contents

Preface	p. ix
Introduction	p. 1
Bibliographic Notes	p. 7
Anticipating Future Preferences
Dynamically Inconsistent Preferences I: Unconstrained Contracting	p. 11
The Multi-Selves Model	p. 12
Naivete	p. 13
Monopoly Pricing	p. 14
Optimal Price Schemes for Sophisticated Consumers	p. 15
Optimal Price Schemes for Naive Consumers	p. 15
Screening the Consumer's Type	p. 18
Competitive Pricing	p. 18
Welfare Analysis	p. 20
Educating Naive Consumers	p. 21
The Interpretation of Naivete	p. 22
Two Applications	p. 23
Other Topics	p. 25
The (ß, ¿) Model	p. 25
Preference Heterogeneity	p. 26
Summary	p. 28
Bibliographic Notes	p. 28
Dynamically Inconsistent Preferences II: Constrained Contracting	p. 30
Two-Part Tariffs	p. 30
Departure from Marginal-Cost Pricing	p. 31
Welfare Analysis	p. 33
Destabilization of Commitment Devices: Renegotiation and Spot Market Competition	p. 34
Self-Control	p. 36
Implications for Monopoly Pricing	p. 39
Do Self-Control Costs Hamper Competition?	p. 40
Summary	p. 41
Bibliographic Notes	p. 42
Dynamically Inconsistent Preferences III: Partial Naivete	p. 43
Magnitude Naivete	p. 43
Monopoly Pricing	p. 43
Are More Sophisticated Consumers Always Better Off?	p. 45
Frequency Naivete	p. 46
First-Best Monopoly Pricing	p. 47
Second-Best Monopoly Pricing	p. 48
Does Competition Curb Exploitation?	p. 51
Summary	p. 52
Bibliographic Notes	p. 52
Biased Beliefs without Dynamic Inconsistency	p. 53
Monopoly Pricing with Over-Optimistic Consumers	p. 54
Comparison with Related Models	p. 57
Overconfidence: Three-Part Tariffs	p. 60
Unforeseen Contingencies: Add-On Pricing	p. 62
A Summary Exercise: Insurance Markets with Biased Consumers	p. 67
Equilibrium Analysis When Subjective Beliefs Are Observable	p. 69
Equilibrium Analysis When Subjective Beliefs Are Private Information	p. 70
Summary	p. 73
Bibliographic Notes	p. 73
Responding to Market Complexity
Sampling-Based Reasoning I: Price Competition and Product Differentiation	p. 77
A Sampling-Based Choice Procedure	p. 77
Price Competition and Technology Adoption	p. 78
Nash Equilibrium	p. 80
Welfare Analysis	p. 82
Spurious Product Differentiation	p. 84
Nash Equilibrium	p. 85
Product Complexity as a Differentiation Device	p. 86
Can the Market Educate Consumers?	p. 90
Summary	p. 92
Bibliographic Notes	p. 92
Sampling-Based Reasoning II: Obfuscation	p. 94
A Model of Competitive Obfuscation	p. 94
Nash Equilibrium	p. 96
Welfare Analysis	p. 100
Production Inefficiencies	p. 100
Multi-Dimensional Prices	p. 103
A Market Intervention: Introducing ôSimpleö Options	p. 104
Summary	p. 107
Bibliographic Notes	p. 108
Coarse Reasoning	p. 110
A Modeling Framework	p. 110
Complex Price Patterns as a Discrimination Device	p. 112
ôDeBruijnö Price Sequences	p. 114
Conditions for Profitability of Complex Price Patterns	p. 115
Limited Understanding of Adverse Selection	p. 118
A Buyer-Seller Example	p. 119
A Benchmark: A Bayesian-Rational Buyer	p. 120
A ôCoarseö Buyer	p. 120
Action-Dependent Feedback	p. 122
Summary	p. 123
Bibliographic Notes	p. 124
Reference Dependence
Loss Aversion	p. 127
Expected Price as a Reference Point: Monopoly Pricing	p. 128
Reduced Price Variability	p. 130
Impact on Average Prices	p. 134
Price Uniformity in a Duopoly Setting: ôKinkedö Demand	p. 135
Expected Consumption as a Reference Point: An ôAttachment Effectö	p. 138
Personal Equilibrium	p. 139
Price Randomization	p. 141
Discussion	p. 143
Actual Prices as Reference Points	p. 143
Pleasant Surprises	p. 144
Summary	p. 145
Bibliographic Notes	p. 146
Inertia I: Price Competition	p. 147
Price Competition under Consumer Inertia	p. 148
Price-Frame Competition	p. 151
Nash Equilibrium	p. 153
Equilibrium Properties	p. 157
Two Market Interventions	p. 158
Consumer Switching	p. 159
Asymmetric Default Assignment	p. 160
A Few General Remarks	p. 161
More Than Two Frames	p. 161
Revealed Preferences	p. 163
Summary	p. 163
Bibliographic Notes	p. 164
Inertia II: Costly Marketing	p. 166
A Model of Competitive Marketing	p. 167
Nash Equilibrium	p. 170
The Effective Marketing Property	p. 176
Discussion	p. 178
Summary	p. 180
Bibliographic Notes	p. 180
Discussion
Recurring Themes	p. 183
Complex Pricing Strategies	p. 183
Spurious Variety	p. 184
Market Transactions as a Form of Speculative Trade	p. 185
How Effective Are Competition and Consumer Protection Policies?	p. 186
Externalities between Rational and Boundedly Rational Consumers	p. 187
Conclusion	p. 187
But Can't We Get the Same Thing with a Standard Model?	p. 188
Rationalization via Modified Information	p. 190
Rationalization via Modified Preferences	p. 194
Rationalization via Endogenization	p. 196
Discussion	p. 199
Epilogue	p. 200
Bibliographic Notes	p. 201
Appendix to Part I: A Decision-Theoretic Perspective	p. 202
The Multi-Selves Model	p. 202
Self-Control Preferences	p. 204
The Relation between Self-Control Preferences and the Multi-Selves Model	p. 208
Other Classes of Temptation-Driven Preferences	p. 210
Bibliographic Notes	p. 211
Bibliography	p. 213
Index	p. 219
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