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Price competition and nominal illusion: experimental evidence and a behavioural model

Author

Listed:
  • Antonio J. Morales

    (Universidad de Málaga)

  • Enrique Fatas

    (University of Pennsylvania
    Universidad ICESI)

Abstract

The standard approach to nominal illusion in Economics sees it as a transitory phenomenon, as economic agents eventually see through the nominal veil, making the right choices. Recent empirical studies suggest that money illusion may persist, distorting real prices in a variety of economic environments, including the housing market and the stock market. In this paper, we explore the emergence and persistence of nominal illusion in an experimental entry game where firms must choose which local market to enter, and then compete in prices. All local markets are equivalent in real terms and they only differ in the currency the price competition is run under. Our experimental results show a positive, persistent and monotone effect of the nominal exchange rate on market prices, statistically significant for large enough exchange rate. We provide an explanation in terms of players simplifying the choice set using discrete grids.

Suggested Citation

  • Antonio J. Morales & Enrique Fatas, 2021. "Price competition and nominal illusion: experimental evidence and a behavioural model," SERIEs: Journal of the Spanish Economic Association, Springer;Spanish Economic Association, vol. 12(4), pages 607-632, December.
    • Handle: RePEc:spr:series:v:12:y:2021:i:4:d:10.1007_s13209-021-00235-7
    DOI: 10.1007/s13209-021-00235-7
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    References listed on IDEAS

    as
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    More about this item

    Keywords

    Price competition; Money illusion; Experiments; Nominal representation;
    All these keywords.

    JEL classification:

    • C72 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Noncooperative Games
    • C9 - Mathematical and Quantitative Methods - - Design of Experiments
    • D43 - Microeconomics - - Market Structure, Pricing, and Design - - - Oligopoly and Other Forms of Market Imperfection
    • L13 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Oligopoly and Other Imperfect Markets

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