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Modeling the Psychology of Consumer and Firm Behavior with Behavioral Economics

Ho, Teck H. and Lim, Noah and Camerer, Colin F. (2005) Modeling the Psychology of Consumer and Firm Behavior with Behavioral Economics. Levine's Bibliography, 784828000000000476. UCLA Department of Economics , Los Angeles, CA.

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Marketing is an applied science that tries to explain and influence how firms and consumers actually behave in markets. Marketing models are usually applications of economic theories. These theories are general and produce precise predictions, but they rely on strong assumptions of rationality of consumers and firms. Theories based on rationality limits could prove similarly general and precise, while grounding theories in psychological plausibility and explaining facts which are puzzles for the standard approach. Behavioral economics explores the implications of limits of rationality. The goal is to make economic theories more plausible while maintaining formal power and accurate prediction of field data. This review focuses selectively on six types of models used in behavioral economics that can be applied to marketing. Three of the models generalize consumer preference to allow (1) sensitivity to reference points (and loss-aversion); (2) social preferences toward outcomes of others; and (3) preference for instant gratification (quasi-hyperbolic discounting). The three models are applied to industrial channel bargaining, salesforce compensation, and pricing of virtuous goods such as gym memberships. The other three models generalize the concept of gametheoretic equilibrium, allowing decision makers to make mistakes (quantal response equilibrium), encounter limits on the depth of strategic thinking (cognitive hierarchy), and equilibrate by learning from feedback (self-tuning EWA). These are applied to marketing strategy problems involving differentiated products, competitive entry into large and small markets, and low-price guarantees. The main goal of this selected review is to encourage marketing researchers of all kinds to apply these tools to marketing. Understanding the models and applying them is a technical challenge for marketing modelers, which also requires thoughtful input from psychologists studying details of consumer behavior. As a result, models like these could create a common language for modelers who prize formality and psychologists who prize realism.

Item Type:Report or Paper (Working Paper)
Related URLs:
URLURL TypeDescription Paper
Ho, Teck H.0000-0001-5210-4977
Camerer, Colin F.0000-0003-4049-1871
Additional Information:Posted 9/23/05. This research is partially supported by NSF Grant SBR 9730187. We thank Wilfred Amaldoss, Botond Koszegi, George Loewenstein, John Lynch, Robert Meyer, Drazen Prelec, and Matt Rabin for their helpful comments. We are especially grateful to the late journal editor, Dick Wittink, for inviting and encouraging us to undertake this review. Dick was a great supporter of inter-disciplinary research. We hope this review can honor his influence and enthusiasm by spurring research that spans both marketing and behavioral economics.
Funding AgencyGrant Number
NSFSBR 9730187
Series Name:Levine's Bibliography
Issue or Number:784828000000000476
Record Number:CaltechAUTHORS:20110203-154203041
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Usage Policy:No commercial reproduction, distribution, display or performance rights in this work are provided.
ID Code:21993
Deposited By: Tony Diaz
Deposited On:01 Mar 2011 01:01
Last Modified:03 Oct 2019 02:32

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