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Do we follow others when we should? A simple test of rational expectations

Listed author(s):
  • Georg Weizsacker

The paper presents a new meta data set covering 13 experiments on the social learning games by Bikhchandani, Hirshleifer, and Welch (1992). The large amount of data makes it possible to estimate the empirically optimal action for a large variety of decision situations and ask about the economic signi…cance of suboptimal play. For example, one can ask how much of the possible payo¤s the players earn in situations where it is empirically optimal that they follow others and contradict their own information. The answer is 53% on average across all experiments –only slightly more than what they would earn by choosing at random. The players’ own information carries much more weight in the choices than the information conveyed by other players’choices: the average player contradicts her own signal only if the empirical odds ratio of the own signal being wrong, conditional on all available information, is larger than 2:1, rather than 1:1 as would be implied by rational expectations. A regression analysis formulates a straightforward test of rational expectations, which rejects, and con…rms that the reluctance to follow others generates a large part of the observed variance in payo¤s, adding to the variance that is due to situational di¤erences.

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File URL: http://eprints.lse.ac.uk/4945/
File Function: Open access version.
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Paper provided by London School of Economics and Political Science, LSE Library in its series LSE Research Online Documents on Economics with number 4945.

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Length: 37 pages
Date of creation: Apr 2008
Handle: RePEc:ehl:lserod:4945
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  16. Goeree, Jacob & Palfrey, Thomas & Rogers, Brian & McKelvey, Richard, 2004. "Self-correcting Information Cascades," Working Papers 1197, California Institute of Technology, Division of the Humanities and Social Sciences.
  17. Weizsacker, Georg, 2003. "Ignoring the rationality of others: evidence from experimental normal-form games," Games and Economic Behavior, Elsevier, vol. 44(1), pages 145-171, July.
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  20. 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.
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  24. Fahr, René & Irlenbusch, Bernd, 2011. "Who follows the crowd—Groups or individuals?," Journal of Economic Behavior & Organization, Elsevier, vol. 80(1), pages 200-209.
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