Reference Dependence and the Role of Information Frictions

Andrea Guido, Alejandro Martinez-Marquina and Ryan Rholes
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Alejandro Martinez-Marquina: Klarman Fellow, Cornell University
Ryan Rholes: University of Oxford

No 2022-17, GREDEG Working Papers from Groupe de REcherche en Droit, Economie, Gestion (GREDEG CNRS), Université Côte d'Azur, France

Abstract: Decades of research highlight the importance of social preferences in strategic interactions. However, most studies assume full information and stable conditions. We relax both by introducing endowment shocks and information frictions into a labor market experiment. Workers evaluate wages relative to a reference wage that depends on economic conditions and adjusts instantaneously to information, but sluggishly and asymmetrically to experience. Firms form accurate beliefs about how shocks and information reshape effort responses and act on their beliefs. We find self-interest and reference dependence rationalize behavior previously attributed to other-regarding preferences. Counter-intuitively, information frictions do not always benefit the informed party.

Keywords: reference dependence; information frictions; beliefs; wage rigidity; labor market; business cycle (search for similar items in EconPapers)
JEL-codes: E32 J2 J3 (search for similar items in EconPapers)
Pages: 68 pages
Date: 2022-06
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