Knowledge that Transforms

We formulate a tractable model of pricing under directed search with heterogeneous firm demands. Demand characteristics drive bids in a position auction and enable us to bridge insights from the ordered search literature to those in the position auction literature. Equilibrium pricing implies that the marginal consumer’s surplus decreases down the search order, so consumers optimally follow the firms’ position ordering. A firm suffers from “business stealing” by firms that precede it and “search appeal” from subsequent firms. We find rankings that achieve the maximal joint profit or consumer surplus by constructing firm-specific scores. A generalized second price auction for positions endogenizes equilibrium orders and bids are driven by position externalities that impact incremental profit from switching positions. The joint profit maximization order is upheld when firm heterogeneity concerns mostly their mark-up potentials. But the consumer welfare order is robust when firms differ mostly over their potential market sizes.

We study a bargaining game in which a seller can trade with one of two buyers, who have values h and l (h>l). The outside option principle (OOP) predicts that, as players become patient, the seller trades with the high-value buyer with probability converging to 1 at a price converging to max(h/2,l). While this prediction is supported by the Markov perfect equilibrium (MPE), a wide range of trading outcomes may emerge in subgame perfect equilibria (SPEs): in the patient limit, the seller can obtain any price in the interval [h/2,h] (and no other); moreover, allocative inefficiency and costly delay are possible. We propose equilibrium refinements less restrictive than Markov behavior that guarantee trading outcomes consistent with the OOP. One refinement requires that a buyer’s relative probability of trade does not increase dramatically following a failed negotiation with that buyer. Another refinement posits that the seller does not approach a buyer hoping that negotiations fail. SPEs satisfying both refinements conform with the OOP (but need not be MPEs). Our benchmark model features strategic matching by the seller. We provide a parallel analysis for the random matching protocol. Under random matching, prices in SPEs may also rise above and fall below l, but have a narrower range. A refinement particular to this protocol that restores the OOP requires that a random mismatch should not impact the seller excessively.

We show that the formalization of representativeness (Kahneman and Tversky (1972)) developed by Gennaioli and Shleifer (2010) features an intrinsic connection between uncertainty and overreaction. In the time series domain, we develop this connection in a smooth version of Diagnostic Expectations (DE), where overreaction varies smoothly with uncertainty. Intuitively, under smoothness, lower uncertainty leaves less room for representativeness to distort beliefs. Smooth DE provides a joint, parsimonious micro-foundation for key features of survey data: overreaction to news, stronger overreaction at longer horizons, overconfidence in subjective uncertainty, and a new stylized fact documented here—overreaction intensifies with higher uncertainty. An analytical Real Business Cycle model with Smooth DE accounts for survey overreaction and overconfidence, as well as three salient business cycle properties: asymmetry, countercyclical macro volatility, and countercyclical micro volatility.

We implement Pigovian transport pricing in a field experiment in urban agglomerations of Switzerland over the course of 8 weeks. Our pricing considers the external costs from climate damages, health outcomes from pollution, accidents and physical activity, and congestion. It varies across time, space, and mode of transport and is deducted from a budget provided to GPS-tracked participants. The treatment significantly reduces the external costs of transport during the course of the experiment. The main underlying mechanism is a shift away from driving towards other modes, such as public transport, walking, and cycling. Providing information about the external costs of transport alone is insufficient to change the transport behaviour for the sample majority. A time-invariant tax on CO2 and health-related externalities would capture most of the welfare gains associated with the first-best policy.

In many markets, buyers make discrete choices between differentiated products and negotiate prices that are specific to the choice. We develop for estimation a model for this class of markets which is consistent with non-cooperative models of bargaining between a buyer and competing sellers. We show that when the buyer’s utility has GEV disturbances, the model has a tractable likelihood function which can be used with transaction-level data giving the selected product and its price. We estimate the model using data from the UK brick industry and use it to measure market power and analyse mergers. We analyse how spatial differentiation and ownership concentration affect the distribution of market power across transactions. In counterfactuals we find that switching from individually negotiated to uniform pricing causes markups, and merger price effects, to increase on average but to decrease for a minority of transactions.

We use decision theory to confront uncertainty that is sufficiently broad to incorporate “models as approximations.” We presume the existence of a featured collection of what we call “structured models” that have explicit substantive motivations. The decision-maker confronts uncertainty through the lens of these models, but also views these models as simplifications, and hence, as misspecified. We extend the max–min analysis under model ambiguity to incorporate the uncertainty induced by acknowledging that the models used in decision making are simplified approximations. Formally, we provide an axiomatic rationale for a decision criterion that incorporates model misspecification concerns. We then extend our analysis beyond the max-min case allowing for a more general criterion that encompasses a Bayesian formulation.

We propose an approach for Bayesian inference in time-varying structural vector autoregressions (SVARs) identified with sign restrictions. The linchpin of our approach is a class of rotation-invariant time-varying SVARs in which the prior and posterior densities of any sequence of structural parameters belonging to the class are invariant to orthogonal transformations of the sequence. Our methodology is new to the literature. In contrast to existing algorithms for inference based on sign restrictions, our algorithm is the first to draw from a uniform distribution over the sequences of orthogonal matrices given the reduced-form parameters. We illustrate our procedure for inference by analyzing the role played by monetary policy during the latest inflation surge.

This article studies competition under information heterogeneity in selection markets and examines the impact of public information regulations aimed at reducing information asymmetries between competing firms. We develop a novel model and introduce new empirical strategies to analyse imperfect competition in markets where firms have heterogeneous information about consumers, vary in cost structures, and offer differentiated products. Using data from the Italian auto insurance market, we find substantial differences in the precision of risk ratings across insurers, and those with less accurate risk-rating algorithms tend to have more efficient cost structures. We assess the equilibrium effects of giving firms equal access to aggregated risk information from a centralized bureau. This policy significantly reduces prices by increasing competition, leading to a 15.7% boost in consumer surplus, almost reaching the efficiency benchmark where firms have full knowledge of consumers’ true risk. Aggregating information through the bureau favours low-risk consumers and reduces average costs by 12 euros per contract through more efficient insurer–insuree matching.

A collective choice problem specifies a finite set of alternatives from which a group of expected utility maximizers must choose. We associate a collective pseudo market with every collective choice problem and establish the existence and efficiency of pseudo Lindahl equilibrium (PLE) allocations. We also associate a cooperative bargaining problem with every collective choice problem and define a set-valued solution concept, the ω-weighted Nash bargaining set where ω is a vector of welfare weights. We provide axioms that characterize the ω-weighted Nash bargaining set. Our main result shows that ω-weighted Nash bargaining set payoffs are also the PLE payoffs of the corresponding collective pseudo market with the same utility functions and incomes ω. We define a pseudo core for collective pseudo markets and show that pseudo Lindahl equilibria are in the pseudo core. We characterize the set of PLE outcomes of discrete allocation problems and show that they contain the set of pseudo Walrasian equilibrium outcomes.

How much does firm intangibility amplify CEOs’ persistent private information and reduce firms’ public listing propensity? We develop a model of competing public and private investors financing firms heterogeneously exposed to persistent private cash flows. Equilibrium financing is driven by information rent differentials in CEO compensation. We validate and structurally estimate the model using firm listing and CEO compensation data. We find private (intangible) cash flows exhibit 63% higher persistence than their tangible counterparts. Further, if firm intangibility levels returned to those of 1980, mean listing propensities would increase 5 percentage points while mean CEO variable pay growth would decrease by 61%.