Saturation Effect and Cyclical Herd Behavior

We analyze a sequential decision model, where in every period a new agent seeks to determine the payoff of some actions. Every agent receives a possibly uninformative signal about the payoffs, and she observes previous choices. Some actions have a saturation effect; i.e., their payoffs become zero if used repeatedly too often albeit the original payoff is recovered later. We show that in every equilibrium and for almost every equilibrium play path, an action will trigger a cyclical herd behavior. We also show that the length of the transition phase between two consecutive herd behavior is at most the time needed to recover from the saturation effect. We thus give an alternative explanation to Kirman (1993) for the cyclicity of herd behavior, based on the negative externality generated by the repeated use of the same action.