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The winner's curse: Conditional reasoning and belief formation

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  • Koch, Christian
  • Penczynski, Stefan P.

Abstract

In explaining the winner's curse, recent approaches have focused on one of two cognitive processes: conditional reasoning and belief formation. We provide the first joint experimental analysis of the role of these two obstacles. First, we observe that overbidding decreases significantly between a simple common-value auction and a transformed version of this auction that does not require conditional reasoning. Second, assistance in belief formation leads to comparable behavioral changes in both games. The two effects are of similar magnitude and amplify each other when jointly present. We conclude that the combination and the interaction of the two cognitive processes in auctions lead to relatively low strategic sophistication compared to other domains. The study's focus on games' objective cognitive challenges is potentially useful for improving predictions across games and complements the common focus on behavioral models and their explanatory power.

Suggested Citation

  • Koch, Christian & Penczynski, Stefan P., 2018. "The winner's curse: Conditional reasoning and belief formation," Journal of Economic Theory, Elsevier, vol. 174(C), pages 57-102.
    • Handle: RePEc:eee:jetheo:v:174:y:2018:i:c:p:57-102
    DOI: 10.1016/j.jet.2017.12.002
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    2. Theo Offerman & Giorgia Romagnoli & Andreas Ziegler, 2022. "Why are open ascending auctions popular? The role of information aggregation and behavioral biases," Quantitative Economics, Econometric Society, vol. 13(2), pages 787-823, May.
    3. Johannes Moser, 2019. "Hypothetical thinking and the winner’s curse: an experimental investigation," Theory and Decision, Springer, vol. 87(1), pages 17-56, July.
    4. Elten, Jonas van & Penczynski, Stefan P., 2020. "Coordination games with asymmetric payoffs: An experimental study with intra-group communication," Journal of Economic Behavior & Organization, Elsevier, vol. 169(C), pages 158-188.
    5. Charness, Gary & Levin, Dan & Schmeidler, David, 2019. "An experimental study of estimation and bidding in common-value auctions with public information," Journal of Economic Theory, Elsevier, vol. 179(C), pages 73-98.

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    More about this item

    Keywords

    Auctions; Winner's curse; Conditional reasoning; Beliefs;
    All these keywords.

    JEL classification:

    • D44 - Microeconomics - - Market Structure, Pricing, and Design - - - Auctions
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • C91 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Individual Behavior

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