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The welfare costs of informationally efficient prices

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  • Koren, Moran
  • Mueller-Frank, Manuel

Abstract

Consider a market with two substitute products and a sequence of consumers. The consumers are uncertain about the quality of each product but obtain some private information about it. Additionally, each consumer observes the purchase decisions of her predecessors but not their private information. Absent prices, the standard logic of herding is that all but finitely many consumers may, with positive probability, select the lower quality product. One perspective in the literature is that informationally efficient market prices can resolve the herding inefficiency and induce asymptotic learning where the beliefs of consumers about product qualities converge to the truth. This paper shows that, while informationally efficient prices induce asymptotic learning, they also inflict a welfare cost. That is, we show that the expected welfare is decreasing in the frequency with which prices are set to be informationally efficient.

Suggested Citation

  • Koren, Moran & Mueller-Frank, Manuel, 2022. "The welfare costs of informationally efficient prices," Games and Economic Behavior, Elsevier, vol. 131(C), pages 186-196.
    • Handle: RePEc:eee:gamebe:v:131:y:2022:i:c:p:186-196
    DOI: 10.1016/j.geb.2021.11.014
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    References listed on IDEAS

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    Cited by:

    1. Arieli, Itai & Koren, Moran & Smorodinsky, Rann, 2022. "The implications of pricing on social learning," Theoretical Economics, Econometric Society, vol. 17(4), November.

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    More about this item

    Keywords

    Dynamic markets; Dynamic prices; Herding; Efficient prices; Allocational efficiency; Information aggregation; Social learning; Welfare; Total surplus; Asymptotic learning;
    All these keywords.

    JEL classification:

    • L15 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Information and Product Quality
    • L20 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - General
    • D21 - Microeconomics - - Production and Organizations - - - Firm Behavior: Theory
    • D60 - Microeconomics - - Welfare Economics - - - General
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness

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