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This paper studies the consumption decisions of agents who face costs of acquiring, absorbing and processing information. These consumers rationally choose to only sporadically update their information and re-compute their optimal consumption plans. In between updating dates, they remain inattentive. This behavior implies that news disperses slowly throughout the population, so events have a gradual and delayed effect on aggregate consumption. The model predicts that aggregate consumption adjusts slowly to shocks, and is able to explain the excess sensitivity and excess smoothness puzzles. In addition, individual consumption is sensitive to ordinary and unexpected past news, but it is not sensitive to extraordinary or predictable events. The model further predicts that some people rationally choose to not plan, live hand-to-mouth, and save less, while other people sporadically update their plans. The longer are these plans, the more they save. Evidence using U.S. aggregate and microeconomic data generally supports these predictions.
In an experiment on markets for services, we find that consumers are likely to stick to defaults and achieve suboptimal outcomes. We unpack two key psychological reasons why they do this - complexity (in terms of non-linearity, number and bundling of tariffs) and consumer inattention. The complexity induced by product bundling, non-linearity and number of tariffs has an important role, but this is overstated if the explanatory power of inattention is neglected. We show that a 'smart nudge' policy of automatically switching default tariffs can be used to exploit inattention-based consumer inertia to achieve better consumer outcomes.
Presents consumer research across both positivist and interpretivist methods. This title deals with such topics as: organic food consumption, luxury goods consumption by Chinese consumers, country of manufacture effects on product quality perceptions, and the nature and effects of cool consumption.
Lack of information distorts markets, and communicating product value to potential consumers is a crucial ingredient of marketing strategy. However, a large body of behavioral research has suggested that even when information is easily accessible, consumers often fail to attend to it. Evidence of consumer inattention has been studied in various settings, both inside and outside the laboratory. How an intermediary should react when communication fails as a result of consumers’ failure to use the provided information is unclear. Can or should firms profit from asymmetric information caused by consumer inattention? If so, by how much? Does competition alleviate the effect? We consider these questions in the context of resale markets, both theoretically and empirically. The theoretical model demonstrates that a centralized intermediary can extract surplus from serving consumers who are less attentive and, as a result, overestimate the product value. We test the theory using a detailed dataset of millions of automobile transactions from a seven-year period. First, we find clear evidence of a specific type of inattention: Buyers exhibit left-digit bias and systematically underestimate the depreciation of vehicles that have odometer readings immediately below round cutoffs. Second, the estimated level of inattention is twice as high in dealership transactions than in consumer transactions, so that dealers make a significantly higher margin on such vehicles. Third, we estimate the supply-side response to consumer inattention and find 2.53% additional transactions, compared to the no-inattention counterfactual. As a result, the average margin is 1.8% higher, leading to an aggregate increase in operating profits of 4.37%, or about $422 million, within the seven-year sample period. The surplus obtained by the product owners who sell in the market increases by about 2.77%. Back-of-the-envelope calculations imply that U.S. used vehicle dealers’ annual profits attributable to consumer inattention are about $700 million
This dissertation investigates the implications of consumer inattention and uncertainty for firms' advertising and pricing decisions. The first chapter is an overview of the problems addressed in the dissertation and the main findings. The second chapter develops a theory-based, cost-effective method to estimate the demand for new products using choice experiments. The premise is that consumers are uncertain about their valuation of a new product and need to spend costly effort to learn their valuation. The effort consumers spend is affected by the probability of their choice being realized, and as a result will change the manifested demand curve derived from choice experiments. We run a large-scale choice experiment on a mobile game platform, where we randomize the price and realization probability of a new product. Data support our theoretical hypothesis. We then estimate a structural model of consumer decisions. The structural estimates allow us to accurately infer actual demand based on choice experiments of small to moderate realization probabilities. The third chapter examines firms' advertising strategy on social media under consumers' limited attention. Advertising on social media faces a new challenge as consumers can actively select which advertisers to follow. A Bayesian learning model suggests that consumers with limited attention may rationally choose to unfollow a firm. This happens if consumers already know about the firm's value well and if the firm advertises too intensely. However, we find that intensive advertising may still be the optimal strategy for firms. If a firm is perceived as providing low value, it will want to advertise aggressively to change consumers' mind; if a firm is perceived as providing higher value, it will also want to advertise intensively, but in an effort to crowd-out advertising messages from its competitors. Tracking company accounts of 49 TV shows on the most popular tweeting website in China provides empirical evidence that both popular and non-popular firms advertise intensively, although the number of followers does go down when a firm advertises too intensively. The fourth chapter investigates channel coordination in search advertising. Given that consumers have limited attention, there are only a limited number of advertising slots on search engine platforms that can attract positive number of clicks. A manufacturer can sponsor retailers to advertise its products while at the same time compete with them in a position auction with limited number of slots. We prescribe the optimal cooperative search advertising strategies for the manufacturer. We find that it may not be optimal for a manufacturer to cooperate with all of its retailers, even when these retailers are ex ante the same. This finding reflects the manufacturer's tradeoff between higher demand and higher bidding cost caused by more intensified competition. With two asymmetric retailers, the manufacturer should support the retailer with the higher channel profit per click to get a higher position than the other retailer. The manufacturer should take a higher position than a retailer when its profit per click via direct sales exceeds the channel profit per click of the retailer. We also investigate how a manufacturer uses both wholesale and advertising contracts to coordinate channels with endogenous retail prices.
Two leaders in the field explore the foundations of bounded rationality and its effects on choices by individuals, firms, and the government. Bounded rationality recognizes that human behavior departs from the perfect rationality assumed by neoclassical economics. In this book, Sanjit Dhami and Cass R. Sunstein explore the foundations of bounded rationality and consider the implications of this approach for public policy and law, in particular for questions about choice, welfare, and freedom. The authors, both recognized as experts in the field, cover a wide range of empirical findings and assess theoretical work that attempts to explain those findings. Their presentation is comprehensive, coherent, and lucid, with even the most technical material explained accessibly. They not only offer observations and commentary on the existing literature but also explore new insights, ideas, and connections. After examining the traditional neoclassical framework, which they refer to as the Bayesian rationality approach (BRA), and its empirical issues, Dhami and Sunstein offer a detailed account of bounded rationality and how it can be incorporated into the social and behavioral sciences. They also discuss a set of models of heuristics-based choice and the philosophical foundations of behavioral economics. Finally, they examine libertarian paternalism and its strategies of “nudges.”