\ Botond Koszegi's Home Page


Browsing versus Studying OffersAbstract:

We introduce a simple model of a market in which consumers must make tradeoffs between "browsing" more products superficially, and "studying" fewer products in detail. Each firm chooses two price components, a headline price and an additional price, and specifies conditions under which a consumer can avoid the additional price. Each consumer can either fully understand the offer of one firm (studying), or look at only the headline prices of two firms (browsing). In equilibrium, high-value consumers browse and pay the additional price, but low-value consumers study to avoid the additional price. Although high-value consumers pay higher total prices, the average price consumers pay is decreasing in the share of high-value consumers. This result is consistent with evidence that a number of essential products are more expensive in lower-income neighborhoods, and our model also helps explain why entry into such neighborhoods does not solve the problem. More importantly, our framework generates a novel and powerful competition-policy-based argument for regulating the additional price or other secondary product features. In contrast to existing arguments that such regulations may be ineffective or even distortionary, we show that they have a multiplier effect: because consumers do not need to worry about the regulated feature, they do more browsing, enhancing competition. In many situations, the increase in competition also increases efficiency, but we identify a class of situations in which there is a tradeoff between competition and efficiency.

Joint with Paul Heidhues and Johannes Johnen. Updated June 2017.

Unrealistic Expectations and Misguided LearningAbstract:

We explore the learning process and behavior of an individual with unrealistically high expectations ("overconfidence") when outcomes also depend on an external fundamental that affects the optimal action. Moving beyond existing results in the literature, we show that the agent's beliefs regarding the fundamental converge under weak conditions. Furthermore, we identify a broad class of situations in which "learning" about the fundamental is self-defeating: it leads the individual systematically away from the correct belief and toward lower performance. Due to his overconfidence, the agent -- even if initially correct -- becomes too pessimistic about the fundamental. As he adjusts his behavior in response, he lowers outcomes and hence becomes even more pessimistic about the fundamental, perpetuating the misdirected learning. The greater is the loss from choosing a suboptimal action, the further the agent's action ends up from optimal. We partially characterize environments in which self-defeating learning occurs, and show that the decisionmaker learns to take the optimal action if and only if a specific non-identifiability condition is satisfied. In contrast to an overconfident agent, an underconfident agent's misdirected learning is self-limiting and therefore not very harmful. We argue that the decision situations in question are common in economic settings, including delegation, organizational, effort, and public-policy choices.

Joint with Paul Heidhues and Philipp Strack. Updated April 2017.

Financial Choice and Financial InformationAbstract:

We analyze the implications of increases in the selection of, and information about, derivative financial products in a model in which investors neglect informational differences between themselves and issuers. We assume that investors receive information that is noisy and inferior to issuers' information, and that issuers can select the set of underlying assets when designing a security. In contrast to the received wisdom that diversification is helpful, we show that when custom-designed diversification across a large number of underlying assets is possible, then expected utility approaches negative infinity. Even beyond this limiting case, any expansion in choice induced by either an increase in the maximum number of assets underlying a security, or an increase in the number of assets from which the underlying can be selected, Pareto-lowers welfare. Furthermore, under reasonable conditions an improvement in investor information Pareto-lowers welfare by giving investors the false impression that they can spot good deals. An increase in competition between issuers does not increase welfare, and even increases investors' incentive to acquire welfare-reducing information. Restricting the set of underlying assets the issuer can use -- a kind of standardization -- raises welfare, and once this policy is adopted, increasing investor information becomes beneficial.

Joint with Péter Kondor. Updated May 2017.