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Informational Herding and Optimal Experimentation

  • Lones Smith

    (Dept. of Economics, University of Michigan)

  • Peter Norman Sorensen

    ()

    (Department of Economics, University of Copenhagen)

We show that far from capturing a formally new phenomenon, informational herding is really a special case of single-person experimentation -- and 'bad herds' the typical failure of complete learning. We then analyze the analogous team equilibrium, where individuals maximize the present discounted welfare of posterity. To do so, we generalize Gittins indices to our non-bandit learning problem, and thereby characterize when contrarian behaviour arises: (i) While herds are still constrained efficient, they arise for a strictly smaller belief set. (ii) A log-concave log-likelihood ratio density robustly ensures that individuals should lean more against their myopic preference for an action the more popular it becomes.

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File URL: http://cowles.econ.yale.edu/P/cd/d15b/d1552.pdf
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Paper provided by Cowles Foundation for Research in Economics, Yale University in its series Cowles Foundation Discussion Papers with number 1552.

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Length: 39 pages
Date of creation: Jan 2006
Date of revision:
Handle: RePEc:cwl:cwldpp:1552
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Web page: http://cowles.econ.yale.edu/

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Order Information: Postal: Cowles Foundation, Yale University, Box 208281, New Haven, CT 06520-8281 USA

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  1. Vives, Xavier, 1993. "How Fast Do Rational Agents Learn?," Review of Economic Studies, Wiley Blackwell, vol. 60(2), pages 329-47, April.
  2. Doyle, Matthew, 2002. "Informational Externalities, Strategic Delay, and the Search for Optimal Policy," Staff General Research Papers 10046, Iowa State University, Department of Economics.
  3. Sgroi, D., 2000. "Optimizing Information in the Herd: Guinea Pigs, Profit and Welfare," Economics Papers 2000-w14, Economics Group, Nuffield College, University of Oxford.
  4. Banerjee, Abhijit V, 1992. "A Simple Model of Herd Behavior," The Quarterly Journal of Economics, MIT Press, vol. 107(3), pages 797-817, August.
  5. Sushil Bikhchandani & David Hirshleifer & Ivo Welch, 2010. "A theory of Fads, Fashion, Custom and cultural change as informational Cascades," Levine's Working Paper Archive 1193, David K. Levine.
  6. Smith, L. & Sorensen, P., 1996. "Pathological Outcomes of Observational Learning," Working papers 96-19, Massachusetts Institute of Technology (MIT), Department of Economics.
  7. Burdett, Kenneth, 1996. "Truncated means and variances," Economics Letters, Elsevier, vol. 52(3), pages 263-267, September.
  8. Aghion, P. & Bolton, P. & Harris, C. & Jullien, B., 1990. "Optimal Learning By Experimentation," DELTA Working Papers 90-10, DELTA (Ecole normale supérieure).
  9. Chamley, Christophe & Gale, Douglas, 1994. "Information Revelation and Strategic Delay in a Model of Investment," Econometrica, Econometric Society, vol. 62(5), pages 1065-85, September.
  10. Rothschild, Michael, 1974. "A two-armed bandit theory of market pricing," Journal of Economic Theory, Elsevier, vol. 9(2), pages 185-202, October.
  11. McLennan, Andrew, 1984. "Price dispersion and incomplete learning in the long run," Journal of Economic Dynamics and Control, Elsevier, vol. 7(3), pages 331-347, September.
  12. Aghion, Philippe, et al, 1991. "Optimal Learning by Experimentation," Review of Economic Studies, Wiley Blackwell, vol. 58(4), pages 621-54, July.
  13. Amir, Rabah, 1996. "Sensitivity analysis of multisector optimal economic dynamics," Journal of Mathematical Economics, Elsevier, vol. 25(1), pages 123-141.
  14. Dow, James, 1991. "Search Decisions with Limited Memory," Review of Economic Studies, Wiley Blackwell, vol. 58(1), pages 1-14, January.
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