IDEAS home Printed from https://ideas.repec.org/h/elg/eechap/16609_6.html
   My bibliography  Save this book chapter

Risk, overconfidence and production in a competitive market

In: Handbook of Behavioral Industrial Organization

Author

Listed:
  • David R. Just
  • Ying Cao

Abstract

Underestimation of risk as well as overestimation of mean outcomes has been widely documented in both experimental and field settings. These biases in perception are commonly referred to (either jointly or in isolation) as overconfidence. Several researchers have examined the implications of overconfident decision makers in the context of firms attempting to maximize profit in isolation. We review this literature and then extend this analysis to determine the impact of competitive market forces on overconfident firms. We generalize the analysis of Sandmo, who examined the impact of risk on competitive markets, extending his results to firms displaying overconfidence. We explore the case of imperfect competition, showing that overconfident firms may strictly dominate firms displaying perfect perception in a competitive market. Overconfident producers invest greater amounts and produce more than those with accurate perception. Under risk aversion, modest overconfidence leads to a higher average profit and greater variance of profits, leaving the producer a greater probability of surviving downward competitive pressures. Despite the greater variance of profits, if enough producers underestimate their risk, they should collectively drive decision makers with more accurate perceptions from the market. For this reason, overconfidence may be as important a determinant of market behavior as diminishing marginal utility of wealth or loss aversion.

Suggested Citation

  • David R. Just & Ying Cao, 2018. "Risk, overconfidence and production in a competitive market," Chapters, in: Victor J. Tremblay & Elizabeth Schroeder & Carol Horton Tremblay (ed.), Handbook of Behavioral Industrial Organization, chapter 6, pages 138-171, Edward Elgar Publishing.
  • Handle: RePEc:elg:eechap:16609_6
    as

    Download full text from publisher

    File URL: https://www.elgaronline.com/view/edcoll/9781784718978/9781784718978.00012.xml
    Download Restriction: no
    ---><---

    More about this item

    Keywords

    Economics and Finance;

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:elg:eechap:16609_6. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Darrel McCalla). General contact details of provider: http://www.e-elgar.com .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    We have no references for this item. You can help adding them by using this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.