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Selling to Overconfident Consumers

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  • Michael D. Grubb

Abstract

Consumers may overestimate the precision of their demand forecasts. This overconfidence creates an incentive for both monopolists and competitive firms to offer tariffs with included quantities at zero marginal cost, followed by steep marginal charges. This matches observed cellular phone service pricing plans in the United States and elsewhere. An alternative explanation with common priors can be ruled out in favor of overconfidence based on observed customer usage patterns for a major US cellular phone service provider. The model can be reinterpreted to explain the use of flat rates and late fees in rental markets, and teaser rates on loans. Nevertheless, firms may benefit from consumers losing their overconfidence. (JEL D12, L11, L96)

Suggested Citation

  • Michael D. Grubb, 2009. "Selling to Overconfident Consumers," American Economic Review, American Economic Association, vol. 99(5), pages 1770-1807, December.
  • Handle: RePEc:aea:aecrev:v:99:y:2009:i:5:p:1770-1807
    Note: DOI: 10.1257/aer.99.5.1770
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    More about this item

    JEL classification:

    • D12 - Microeconomics - - Household Behavior - - - Consumer Economics: Empirical Analysis
    • L11 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Production, Pricing, and Market Structure; Size Distribution of Firms
    • L96 - Industrial Organization - - Industry Studies: Transportation and Utilities - - - Telecommunications

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