Standard economics has been the subject of many critiques. Mainstream economic models and analysis rely on behavioral assumptions that are often difficult to justify from an introspective viewpoint, but also considering the large body of experimental evidence. Recent years have witnessed a flurry of alternative modeling approaches. The course will present some of them, with the hope of stimulating new research, both theoretical and applied. We will examine economic models in which decision makers have a richer psychology than prescribed by textbook models: their preferences will be subtler and more complex than conventionally assumed, and their cognitive abilities will not be limitless.
Part I: Behavioral industrial organization (delivered by Ran Spiegler)
This part is devoted to the growing field often referred to as "behavioral industrial organization". We will examine market models in which profit-maximizing
firms interact with consumers who depart from the standard rational-choice model in
various dimensions: (i) their ability to evaluate and compare complex market alternatives will be limited; (ii) their preferences will be dynamically inconsistent and/or reference-dependent, and their ability to predict their future preferences may be limited. This alternative view of consumer behavior generates a variety of novel theoretical questions related to the field of Industrial Organization: Can we explain pricing and marketing phenomena as the outcome of such an interaction between rational firms and boundedly rational consumers? To what extent are boundedly rational consumers vulnerable to market exploitation? Does market competition protect them from being exploited? What is the role of regulatory responses such as consumer protection? This part will hopefully stimulate further study into various fields: industrial organization (both theoretical and empirical), regulation and consumer protection, choice theory and contract theory.
Part II: Bounded rationality in strategic contexts (delivered by Philippe Jehiel)
The modern approach to solution concepts in games is by a learning story. Players may have wrong expectations (either about the opponent’s play or about the assessment of their own strategy) to start with, but as experience accumulates, expectations should get closer to the truth: if agents' behavior stabilizes, it should correspond to equilibrium play. However, this view (at least applied in a strict sense) seems less plausible in complex games. Think of chess. Predicting what the opponent will do in more than a few steps ahead is impractical. Knowing or learning the value of a board position is impossible (for most positions), even for the best chess players. These considerations suggest a need to develop new models of bounded rationality, which may applied to various economic fields of inquiry such as macroeconomics, industrial organization or finance.
Throughout the course, we aim to maintain the tradition of microeconomic theory, with its emphasis on careful modeling and logical deduction, while incorporating elements of bounded rationality / behavioral economics. While our orientation is theoretical, it is the nature of this subject that the distance from theory to application can be very short. Therefore, we recommend this course to students with a taste for theory but also for students who are curious about how to introduce novel elements of bounded rationality / behavioral economics into "applied" fields as diverse as industrial organization, labor economics, public finance, macroeconomics and financial economics.
Rani Spiegler and Philippe Jehiel