Experimental Evidence Of A Sunk‐Cost Paradox: A Study Of Pricing Behavior In Bertrand–Edgeworth Duopoly
AbstractA wellâknown implication of microeconomic theory is that sunk costs should have no effect on decision making. We test this hypothesis with a humanâsubjects experiment. Students recruited from graduate business courses, with an average of over six years of work experience, played the role of firms in a repeated priceâsetting duopoly game in which both firms had identical capacity constraints and costs, including a sunk cost that varied across experimental sessions over six different values. We find, contrary to the prediction of microeconomic theory, that subjectsâ pricing decisions show sizable differences across treatments. The effect of the sunk cost is nonâmonotonic: as it increases from low to medium levels, average prices decrease, but as it increases from medium to high levels, average prices increase. These effects are not apparent initially, but develop quickly and persist throughout the game. Cachon and Camererâs (1996) loss avoidance is consistent with both effects, while costâbased pricing predicts only the latter effect, and is inconsistent with the former.
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Bibliographic InfoArticle provided by Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association in its journal International Economic Review.
Volume (Year): 52 (2011)
Issue (Month): 2 (05)
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- Buchheit, Steve & Feltovich, Nick, 2010. "Experimental evidence of a sunk–cost paradox: a study of pricing behavior in Bertrand–Edgeworth duopoly," SIRE Discussion Papers 2010-124, Scottish Institute for Research in Economics (SIRE).
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