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When higher productivity hurts: The interaction between overconfidence and capital

Andrew Royal and Joshua Tasoff

Journal of Behavioral and Experimental Economics (formerly The Journal of Socio-Economics), 2017, vol. 67, issue C, 131-142

Abstract: We investigate how the increased availability of a factor of production can make an overconfident agent worse off. In our model, two effects drive this result. First, when a production factor and ability are complements in the production function, the agent may overpay for the production factor. Second, the acquisition of this factor will distort the agent’s choice of what activities to pursue. In contrast, when the factor and ability are substitutes, the agent will undervalue the factor. In a laboratory experiment we find that subjects overpay for ability-complements, and underpay for ability-substitutes. Subjects provided with free ability-complements earn less due to how it distorts the subjects’ perceptions of what activity to pursue.

Keywords: Overconfidence; Capital; Ability-complements; Ability-substitutes; Excess entry; Active investing (search for similar items in EconPapers)
JEL-codes: C91 D03 D24 (search for similar items in EconPapers)
Date: 2017
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