Working Papers

[1] Search Costs and Diminishing Sensitivity, joint with Heiko Karle, Florian Kerzenmacher, and Frank Verboven [pdf]

Empirical search cost estimates tend to increase in the size of the transaction, even if search can be done conveniently online. To assess this pattern systematically, we conduct an online search experiment in which we manipulate the price scale while keeping the physical search effort for each price quote constant. Based on a standard search model, we confirm that search cost estimates indeed increase considerably in the price scale. We then modify the search model to allow for diminishing sensitivity, i.e., the tendency that people become less sensitive to price variations of fixed size when the price of the good increases. With the modified model, we find substantial degrees of diminishing sensitivity and obtain search cost estimates that are scale-independent. We show that these search cost estimates correspond well to subjects‘ true opportunity costs of time and that the welfare loss from diminishing sensitivity can be quite substantial.

[2] Competitive Markets and Boundedly Rational Expectations [pdf]

We analyze the trade of differentiated products when firms set both base and potentially hidden add-on prices. Boundedly rational consumers are subject to coarse reasoning and mistakenly believe that their action (product choice or substitution effort) has no effect on the probability of paying add-on prices. However, all consumers correctly anticipate their equilibrium expenses, so there are no „surprise charges.“ Shrouding equilibria with inefficient trade exist in this setting, but only if the market is sufficiently competitive. There is an optimal maximal add-on price that defines the scope for profitable exploitative innovation. Further, the presence of boundedly rational consumers can generate innovation incentives that improve welfare relative to the rational consumer benchmark. For credit/debit card markets the model explains why informational interventions often have only small effects on behavior, while add-on price regulation increases consumer surplus.

[3] Consumer Loss Aversion and Scale-Dependent Psychological Switching Cost, joint with Heiko Karle and Rune Vølund [pdf]

We consider a model of product differentiation where consumers are uncertain about the qualities and prices of firms’ products. They can inspect all products at zero cost. A share of consumers is expectation-based loss averse. For these consumers, buying products of varying quality and price creates disutility from gain-loss sensations. Even at modest degrees of loss aversion they may refrain from inspecting all products and choose an individual default that is strictly dominated in terms of surplus. Firms’ strategic behavior exacerbates the scope for this effect. The model generates “scale-dependent psychological switching costs” that increase in the value of the transaction. They imply that making switching easier or costless for consumers would not motivate more switching.

[4] Persuasion of Loss-Averse Receivers Through Early Offers, joint with Heiko Karle and Rune Vølund [pdf]

We study a simple bargaining model in which the sender can make early offers to the receiver. Initially, the sender has private information about the value of the receiver’s outside option. The receiver learns this value before she chooses between the sender’s early offer and her outside option. Nevertheless, if the receiver is expectation-based loss averse, the sender can persuade her to accept an offer that is inferior to her outside option. This result is due to the interaction of two effects: the attachment effect that makes it costly for the receiver to reject an offer that she planned to accept, and the uncertainty effect which renders the acceptance of the sender’s offer as the preferred plan since it creates peace of mind at an early stage. We show that, under mild restrictions, the main result holds for all degrees of loss aversion. Thus, expectation-based loss-averse preferences imply that there is scope for persuasion through signaling even if the receiver has all payoff-relevant information at the decision stage.

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