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Cycling and Categorical Learning in Decentralized Adverse Selection Economies

Philippe Jehiel () and Erik Mohlin ()

No 2021:11, Working Papers from Lund University, Department of Economics

Abstract: We study learning in a decentralized pairwise adverse selection economy, where buyers have access to the quality of traded goods but not to the quality of non- traded goods. Buyers categorize ask prices in order to predict quality as a function of ask price. The categorization is endogenously determined so that outcomes that are observed more often are categorized more finely, and within each category beliefs reflect the empirical average. This leads buyers to have a very fine understanding of the relationship between qualities and ask prices for prices below the current market price, but only a coarse understanding above that price. We find that this induces a price cycle involving the Nash equilibrium price, and one or more higher prices.

Keywords: Adverse selection; Bounded rationality; Categorization; Learning; Model misspecification; OTC markets (search for similar items in EconPapers)
JEL-codes: C70 C73 D82 D83 D91 (search for similar items in EconPapers)
Pages: 56 pages
Date: 2021-09-02
New Economics Papers: this item is included in nep-gth, nep-isf and nep-mic
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Related works:
Working Paper: Cycling and Categorical Learning in Decentralized Adverse Selection Economies (2022) Downloads
Working Paper: Cycling and Categorical Learning in Decentralized Adverse Selection Economies (2022) Downloads
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