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DFG CRC TRR 190 Rationality and Competition

DFG Collaborative Research Center Transregio - „Rationality and Competition: The Economic Performance of Individuals and Firms“

The Collaborative Research Center Transregio “Rationality and Competition” combines the research programs of behavioral and neoclassical economists to study applied economic questions that are of high policy relevance. The focus is on the economic behavior and performance of individuals and firms: How do systematic biases in expectations, decision processes, and preferences affect the most important economic decisions of households – about education, health, labor supply, financial investments and the purchase of durable consumption goods? How do firms respond to behavioral biases of their customers and their employees, for example by adjusting their marketing strategies, their organizational design, their incentive schemes and their innovation activities? What economic policy interventions are effective to protect consumers and employees from exploitation and how can they prevent the destabilization of markets (due to bubbles and crashes)? The LMU Munich and the HU Berlin are the leading institutions, complemented by additional research institutions like the ifo Institute or the Max-Planck Institute.

Project A05 (Spann and Klapper) – “Transparency and Product Choice”

The overall research theme of Project (A05) is to study behavioral biases in consumer decisions by combining behavioral economics with a marketing perspective. Consumer decisions are usually characterized by a choice among competing alternatives. However, the quantity and quality of choice-related information (e.g., product attributes, informative and/or persuasive advertising) as well as the choice architecture (e.g., framing) often varies. An overarching finding from our research in the first funding period has been that what and how information is presented may activate numerous behavioral biases and affect consumers’ decisions. Building upon our findings, for the second funding period, the project aims to study the impact of transparency, i.e., the quantity and quality of information made available to consumers in their choice situations, on consumer decision making. Less transparency (with respect to information quantity and quality) increases consumer uncertainty and thus may lead to more biased decisions. Therefore, an increase in transparency is expected to benefit consumers to make more informed and thus better decisions. For sellers, being more transparent can have benefits regarding higher customer satisfaction and sales. However, transparency is also costly to companies since it reveals information to competitors and may bound strategic decisions. In addition, regulators increasingly demand transparency from companies, such as the consent-seeking requirements of the General Data Protection Regulation (GDPR) for the use of online cookies and the ongoing discussion of requirements to reveal recommendation and pricing algorithms. Given this background of an increased importance of (market) transparency, it is surprising that so far little focus has been put on the effects of transparency on consumers’ product choices as well as possible behavioral biases. In contrast to the naïve expectation of a general positive effect of transparency on consumer decision making, transparency may not always be in the consumer’s best interest: For example, providing too much information due to increased transparency may overwhelm consumers regarding decision difficulty, and less information may enable consumers to make less-biased decisions. Therefore, the optimal level of transparency in any given choice situation likely depends on various aspects, including situational factors (e.g., context), the choice interface, and consumer’s cognitive capacity and experience. Transparency has the ability to influence consumers in various ways and numerous domains (e.g., choice of goods and services, choice of employers, investment behavior). The goal of the second funding period of A05 is to study the impact of transparency on behavioral biases and product choice. More specifically, we aim to study the effects of transparency regarding (i) seller’s costs and price setting, (ii) how products are constructed, and (iii) how the choice interface is designed (e.g., recommendation lists, who or what provides recommendations) on consumer decision making.

In the first funding period, project A05 studied consumer decisions on high-priced durable goods and novel services with a special focus on automotive demand. Consumers may exhibit behavioral biases when buying a car, such as biased expectations about their own future behavior, gasoline prices, the resale value of cars or the potential savings from using car sharing services. The automobile industry is particularly promising to study behavioral biases: On the one hand, consumers are facing a “big ticket” decisions which make consistent choice behavior likely but on the other hand, constant innovation and competition increase the complexity of choice decisions (e.g. due to the emergence of new transmission technologies and new car sharing services), which make biased choice behavior likely. The project aims to enhance the understanding of deviations from rational decision making and the existence of potential behavioral biases. It will investigate, for example, the causal effects of overconfidence and ambiguity aversion on consumers’ choices for alternative fuel efficiency technologies in automobiles and for flat-rates (owning) vs. pay-per-use consumption (demand-driven renting). In addition, the project will analyze how the direction and the degree of these biases are affected by the framing of the decision, e.g., information and choice-elicitation interfaces provided to consumers. The generated results will inform firms on how to formulate marketing strategies and policy makers on how to design regulations that avoid wrong processing of information and biased choices. Additionally consumers can be informed about their decision behaviour and how to potentially adapt it. Methodologically the project will employ induced-value laboratory experiments, hypothetical discrete choice experiments, and field experiments.

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