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Willingness to Pay, Compensating Variation, and the Cost of Commitment

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Author Info
Jinhua Zhao
Catherine L. Kling

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Abstract

Hicksian welfare theory is static in nature, but many decisions are made in a dynamic environment. We present a dynamic model of an agent's decision to purchase or sell a good under the realistic conditions of uncertainty, irreversibility, and learning over time. Her willingness to pay (WTP) contains both the intrinsic value of the good as in Hicksian theory plus a commitment cost associated with delaying to obtain more information. The Hicksian equivalence between WTP/Willingness to accept (WTA) and compensating and equivalent variations no longer holds. The WTP and WTA divergence may arise and observed WTP values are not always appropriate for welfare analysis. (JEL D60, D83) Copyright 2004, Oxford University Press.

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File URL: http://hdl.handle.net/10.1093/ei/cbh077
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Publisher Info
Article provided by Oxford University Press in its journal Economic Inquiry.

Volume (Year): 42 (2004)
Issue (Month): 3 (July)
Pages: 503-517
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Handle: RePEc:oup:ecinqu:v:42:y:2004:i:3:p:503-517

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Find related papers by JEL classification:
D60 - Microeconomics - - Welfare Economics - - - General
D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search, Learning, and Information

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

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  3. Bikhchandani, Sushil & Hirshleifer, David & Welch, Ivo, 1992. "A Theory of Fads, Fashion, Custom, and Cultural Change in Informational Cascades," Journal of Political Economy, University of Chicago Press, vol. 100(5), pages 992-1026, October. [Downloadable!] (restricted)
  4. Epstein, Larry G, 1980. "Decision Making and the Temporal Resolution of Uncertainty," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 21(2), pages 269-83, June. [Downloadable!] (restricted)
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  7. Banerjee, Abhijit V, 1992. "A Simple Model of Herd Behavior," The Quarterly Journal of Economics, MIT Press, vol. 107(3), pages 797-817, August. [Downloadable!] (restricted)
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  9. Zhao, Jinhua & Zilberman, David & Heiman, Amir & McWilliams, Bruce, 2002. "Modeling Money-back Guarantees as Financial Options," Staff General Research Papers 5206, Iowa State University, Department of Economics.
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  11. Tversky, Amos & Kahneman, Daniel, 1991. "Loss Aversion in Riskless Choice: A Reference-Dependent Model," The Quarterly Journal of Economics, MIT Press, vol. 106(4), pages 1039-61, November. [Downloadable!] (restricted)
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  14. Zhao, Jinhua & Kling, Catherine L., 1999. "Real Options and the WTP/WTA Disparity," Staff General Research Papers 1313, Iowa State University, Department of Economics. [Downloadable!]
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  15. Henry, Claude, 1974. "Investment Decisions Under Uncertainty: The "Irreversibility Effect."," American Economic Review, American Economic Association, vol. 64(6), pages 1006-12, December. [Downloadable!] (restricted)
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Baylis, Kathy & Vercammen, James, 2006. "Scientific Uncertainty and Climate Change Policy," 2006 Annual meeting, July 23-26, Long Beach, CA 21267, American Agricultural Economics Association (New Name 2008: Agricultural and Applied Economics Association). [Downloadable!]
  2. Corrigan, Jay, 2001. "The Effect of Future Availability of Information on Willingness to Pay," Staff General Research Papers 2023, Iowa State University, Department of Economics. [Downloadable!]
  3. Jay Corrigan & Catherine Kling & Jinhua Zhao, 2008. "Willingness to Pay and the Cost of Commitment: An Empirical Specification and Test," Environmental & Resource Economics, European Association of Environmental and Resource Economists, vol. 40(2), pages 285-298, June. [Downloadable!] (restricted)
  4. Jay Corrigan, 2001. "Effect of Future Availability of Information on Willingness to Pay, The," Center for Agricultural and Rural Development (CARD) Publications 01-wp290, Center for Agricultural and Rural Development (CARD) at Iowa State University. [Downloadable!]
  5. Jay R. Corrigan, 2005. "Is the Experimental Auction a Dynamic Market?," Working Papers 0501, Kenyon College, Department of Economics. [Downloadable!]
    Other versions:
  6. Zhao, Jinhua & Kling, Catherine L., 2002. "Environmental Valuation under Dynamic Consumer Behavior," Staff General Research Papers 2106, Iowa State University, Department of Economics. [Downloadable!]
  7. Jinhua Zhao & Catherine L. Kling, 2002. "Environmental Valuation under Dynamic," Center for Agricultural and Rural Development (CARD) Publications 02-wp292, Center for Agricultural and Rural Development (CARD) at Iowa State University. [Downloadable!]
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