nep-mic New Economics Papers
on Microeconomics
Issue of 2010‒10‒30
fifteen papers chosen by
Vaishnavi Srivathsan
Indian Institute of Technology

  1. Sorting versus screening: search frictions and competing mechanisms. By Eeckhout, Jan; Kircher, Philipp
  2. Competing on Good Politicians By Vincenzo Galasso; Tommaso Nannicini
  3. Exploding Offers and Buy-Now Discounts By Mark Armstrong; Jidong Zhou
  4. R&D-Based Growth in the Post-Modern Era. By Holger Strulik; Klaus Prettner; Alexia Prskawetz
  5. Pricing, Advertising, and Market Structure with Frictions By Gomis-Porqueras, Pedro; Julien, Benoit; Wang, Chengsi
  6. To Believe or Not Believe… or Not Decide: A Decision-Theoretic Model of Agnosticism By Tigran Melkonyan; Mark Pingle
  7. Agency Problems and the Fate of Capitalism By Randall Morck; Bernard Yeung
  8. A DSGE Model from the Old Keynesian Economics: An Empirical Investigation By Paolo Gelain; Marco Guerrazzi
  9. A Dynamic Explanation of the Willingness to Pay and Willingness to Accept Disparity By Catherine L. Kling; John A. List; Jinhua Zhao
  10. Biaised Information and Effort By Julie Rosaz
  11. Single-Name Credit Risk, Portfolio Risk, and Credit Rationing By Arnold, Lutz G.; Reeder, Johannes; Trepl , Stefanie
  12. Labor Laws and Innovation By Viral V. Acharya; Ramin P. Baghai; Krishnamurthy V. Subramanian
  13. Almost Common Priors By Ziv Hellman
  14. Create Better Diversified High-Conviction Equity Portfolios using the Portfolio Diversification Index By Crezée, D.P.; Swinkels, L.A.P.
  15. Rationally inattentive macroeconomic wedges By Antonella Tutino

  1. By: Eeckhout, Jan; Kircher, Philipp
    Abstract: In a market where sellers compete by posting trading mechanisms, we allow for a general search technology and show that its features crucially affect the equilibrium mechanism. Price posting prevails when meetings are rival, i.e., when a meeting by one buyer reduces another buyer's meeting probability. Under price posting buyers reveal their type by sorting ex-ante. Only if the meeting technology is sufficiently non-rival, price posting is not an equilibrium. Multiple buyer types then visit the same sellers who screen ex-post through auctions.
    Date: 2010–07
  2. By: Vincenzo Galasso; Tommaso Nannicini
    Abstract: Is electoral competition good for political selection? To address this issue, we introduce a theoretical model where ideological parties select and allocate high-valence (experts) and lowvalence (party loyalists) candidates into electoral districts. Voters care about a national policy (e.g., party ideology) and the valence of their district’s candidates. High-valence candidates are more costly for the parties to recruit. We show that parties compete by selecting and allocating good politicians to the most contestable districts. Empirical evidence on Italian members of parliament confirms this prediction: politicians with higher ex-ante quality, measured by years of schooling, previous market income, and local government experience, are more likely to run in contestable districts. Indeed, despite being different on average, politicians belonging to opposite political coalitions converge to high-quality levels in close electoral races. Furthermore, politicians elected in contestable districts make fewer absences in parliament, due to a selection effect more than to reelection incentives.
    Date: 2010
  3. By: Mark Armstrong; Jidong Zhou
    Abstract: A common sales tactic is for a seller to encourage a potential customer to make her purchase decision quickly. We consider a market with sequential consumer search in which firms often encourage first-time visitors to buy immediately, either by making an “exploding offer” (which permits no return once the consumer leaves) or by offering a “buy-now discount” (which makes the price paid for immediate purchase lower than the regular price). Prices often increase when these policies are used. If firms cannot commit to their sales policy, the outcome depends on whether consumer incur an intrinsic cost of returning to a firm: if there is no such return cost, it is often an equilibrium for firms to offer a uniform price to both first-time and returning visitors; if the return cost is positive, however, firms are forced to make exploding offers.
    Keywords: Consumer search, oligopoly, price discrimination, high-pressure selling, exploding offers, buy-now discounts, costly recall.
    JEL: D40 D43 D83
    Date: 2010–10–24
  4. By: Holger Strulik; Klaus Prettner; Alexia Prskawetz
    Abstract: Conventional R&D-based growth theory suggests that productivity growth is positively correlated with population size or population growth, an implication which is hard to see in the data. Here we integrate micro-founded fertility and schooling into an otherwise standard R&D-based growth model. We then show how a Beckerian child quality-quantity trade-off explains why higher growth of productivity and income per capita are associated with lower population growth. The medium-run prospects for future economic growth - when fertility is going to be below replacement level in virtually all fully developed countries - are thus much better than predicted by conventional R&D-based growth theory..
    Keywords: Endogenous growth, R&D, declining population, fertility, schooling, human capital, postmodern society, post-transitional fertility.
    Date: 2010–10
  5. By: Gomis-Porqueras, Pedro; Julien, Benoit; Wang, Chengsi
    Abstract: This paper develops a model of pricing and advertising in a matching environment with capacity constrained sellers and uncoordinated buyers. Sellers' search intensity attracts buyers only probabilistically through costly informative advertisement. Equilibrium prices and profit maximizing advertising levels are derived and their properties analyzed. The model generates an inverted U-shape relationship between individual advertisement and market tightness which is robust to alternative advertising technologies. The well known empirical fact in the IO literature reflects the trade-off between price and market tightness-matching effects. Finally, in this environment we can alleviate the discontinuity problem, allowing for unique symmetric equilibrium price to be derived.
    Keywords: Directed searching; Advertising; Pricing;Market structure
    JEL: L11 L13 M37
    Date: 2010–10–16
  6. By: Tigran Melkonyan (Department of Resource Economics, University of Nevada, Reno); Mark Pingle (Department of Economics, University of Nevada, Reno)
    Abstract: Using basic decision-theory, we construct a theory of agnosticism, where agnosticism is defined as choosing not to choose a religion. The theory indicates agnosticism can be supported as a rational choice if (a) adopting agnosticism provides in-life benefits relative to any religion, (b) the perceived payoff for agnosticism after death is not too much less than any religion, (c) no religion has a high perceived likelihood of truth, (d) probability of death is neither too high nor too low, or (e) it is less costly to switch from agnosticism to a given religion than from one religion to another, while at the same time there is a reasonable likelihood an informative signal may be received in life as to the truth of various religions.
    Keywords: Agnosticism; Decision theory; Religion; Procrastination; Signal; Uncertainty
    JEL: C44 D81
    Date: 2010–10
  7. By: Randall Morck; Bernard Yeung
    Abstract: Economics has firms maximizing value and people maximizing utility, but firms are run by people. Agency theory concerns the mitigation of this internal contradiction in capitalism. Firms need charters, regulations and laws to restrain those entrusted with their governance, just as economies need constitutions and independent judiciaries to restrain those entrusted with government. Agency problems distort capital allocation if corporate insiders are inefficiently selected or incentivized, and this hampers economic growth absent a legal system with appropriate constraints. However, political economy problems and agency problems in corporations may reinforce each other, compromising the quality of both corporate governance and government.
    JEL: B53 G28 G34 N20 P1 P12
    Date: 2010–10
  8. By: Paolo Gelain; Marco Guerrazzi
    Abstract: In this paper we estimate a DSGE model built along the lines of the recent Farmer¡¯s micro-foundation of the General Theory. Estimating a simple demand-driven competitive-search model, we test the ability of this new theoretical proposal to match the behaviour of the US and Euro Area labour markets. We show that within a relatively simple model we are able to fairly replicate their salient features, confirming for instance the conventional wisdom according to which the US labour market is more flexible than its Euro Area counterpart. Moreover, we provide an estimation of the not-yet-measured (unobserved) Euro Area job vacancies time series.
    Keywords: Old Keynesian Economics, Competitive Search, DSGE Model, Bayesian Estimation.
    JEL: E24 E32 E52 J64
    Date: 2010–10–18
  9. By: Catherine L. Kling; John A. List; Jinhua Zhao
    Abstract: Evidence from laboratory experiments suggests that important disparities exist between willingness to pay (WTP) and compensation demanded for the same good. This study advances, and experimentally tests, a new explanation of the WTP/WTA disparity—a dynamic theory based on the presence of commitment costs. We find that the commitment cost theory combined with a simple behavioral anomaly is able to lend insights into the causes and severity of the WTA/WTP disparity. Further, we find that market experience attenuates the behavioral anomaly, consistent with the notion that no value disparity exists for agents with sufficient market experience.
    JEL: C93 Q5 Q51
    Date: 2010–10
  10. By: Julie Rosaz (Université de Lyon, Lyon, F-69003, France; CNRS, GATE Lyon St Etienne, UMR 5824, 93, chemin des Mouilles, Ecully, F-69130, France; ENS-LSH, Lyon, France)
    Abstract: We study the impact of information manipulation by a principal on the agent’s effort. In a context of asymmetric information at the principal’s advantage, we test experimentally the principal’s willingness to bias (overestimate or under-estimate) the information she gives to her agent on his ability in order to motivate him to exert more effort. We find that i) principals do bias information, ii) agents trust the cheap-talk messages they receive and adjust their effort accordingly. Therefore, biased messages improve both the agent’s performance and thus the principal’s profit. This, however, does not increase efficiency. We also find that over-estimation occurs much more often than under-estimation. Making the signal costly in an additional treatment reduces this effect.
    Keywords: information, feedback, bias, motivation, experiment
    JEL: D83 C92 M12
    Date: 2010
  11. By: Arnold, Lutz G.; Reeder, Johannes; Trepl , Stefanie
    Abstract: This paper introduces non-diversifiable risk in the Stiglitz-Weiss adverse selection model, so that an increase in the average riskiness of the borrower pool causes higher portfolio risk. This opens up the possibility of equilibrium credit rationing. Comparative statics analysis shows that an increase in risk aversion turns a two-price equilibrium into a rationing equilibrium. A two-price equilibrium is more inefficient than a rationing equilibrium, and a usury law that rules out the higher of the two interest rates can be welfare-improving. Contrary to the common result, the equilibrium may be characterized by over-investment.
    Keywords: asymmetric information; credit rationing
    JEL: D82 E51 G21
    Date: 2010
  12. By: Viral V. Acharya; Ramin P. Baghai; Krishnamurthy V. Subramanian
    Abstract: Stringent labor laws can provide firms a commitment device to not punish short-run failures and thereby spur their employees to pursue value-enhancing innovative activities. Using patents and citations as proxies for innovation, we identify this effect by exploiting the time-series variation generated by staggered country-level changes in dismissal laws. We find that within a country, innovation and economic growth are fostered by stringent laws governing dismissal of employees, especially in the more innovation-intensive sectors. Firm-level tests within the United States that exploit a discontinuity generated by the passage of the federal Worker Adjustment and Retraining Notification Act confirm the cross-country evidence.
    JEL: F30 G31 J08 J5 K31
    Date: 2010–10
  13. By: Ziv Hellman
    Abstract: What happens when priors are not common? We show that for each type profile τ over a knowledge space (Ω, Π), where the state space Ω is connected with respect to the partition profile Π, we can associate a value 0 ≤ ε ≤ 1 that we term the prior distance of τ , where ε = 0 if and only if the profile has a common prior. If τ has ε prior distance, then for any bet f amongst the players, it cannot be common knowledge that each player expects a positive gain of ε‖f‖<Sub>∞</Sub>, thus extending no betting results under common priors. Furthermore, as more information is obtained and partitions are refined, the prior distance, and thus the extent of common knowledge disagreement, decreases.
    Date: 2010–09
  14. By: Crezée, D.P.; Swinkels, L.A.P.
    Abstract: We investigate the construction of well-diversified high-conviction equity portfolios, building on Rudin and Morgan (2006) who introduced the Portfolio Diversification Index (PDI) as a new measure of portfolio diversification applied to long/short equity hedge funds in an in-sample period. We are the first to investigate the out-of-sample properties of the PDI. Our research applies a novel portfolio selection algorithm to maximize the PDI of a portfolio of stocks in the S&P 500 Index over 2000 to 2009. We construct equally-weighted, well-diversified portfolios, consisting of 5 to 30 stocks and compare these with randomly selected portfolios of the same stock sizes. Our results indicate that investors using our algorithm to maximize the PDI can improve the diversification of high-conviction equity portfolios. For example, a portfolio of 20 stocks constructed using the algorithm with the PDI behaves out-of-sample as if it contains 10 independent stocks, i.e. a PDI score of 10. Although this is less than the PDI score of 15 achieved in-sample, it is a significant improvement over the PDI score of 7, which occurs with a randomly selected portfolio. Our research is robust with respect to the number of stocks in the investment portfolio and the time period under consideration.
    Keywords: diversification;portfolio construction;risk reduction
    Date: 2010–03–01
  15. By: Antonella Tutino
    Abstract: This paper argues that the solution to a dynamic optimization problem of consumption and labor under finite information-processing capacity can simultaneously explain the intertemporal and intratemporal labor wedges. It presents a partial equilibrium model, where a representative risk adverse consumer chooses information about wealth with limited attention. The paper compares ex-post realizations of models with finite and infinite capacity. The model produces macroeconomic wedges and measures of elasticity consistent with the literature. These findings suggest that a consumption-labor model with information-processing constraints can explain the difference between predicted and observed consumption and employment behavior.
    Keywords: Consumption (Economics) ; Labor market ; Econometric models ; Consumer behavior
    Date: 2010

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