Memory, Attention and Choice
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1 Memory, Attention and Choice Pedro Bordalo, Nicola Gennaioli, Andrei Shleifer BRIC / 19
2 Introduction Psychologists and Economists have long recognised that not all available information is used optimally during decision making Selective Memory neglect relevant information with low availability in memory yet recall potentially irrelevant information (Kahenman, Miller 1986) Selective Attention Attention is drawn to aspects that are most salient, or surprising, in light of what decision makers are thinking about (BGS 2013, Taylor and Thompson 1982) This paper studies interaction between selective memory and attention. Central to understanding: a variety of evidence on consumer behavior shrouding/unshrouding of product attributes reaction to reminders 2 / 19
3 This Paper Memory Perfect Selective FBOR Attention Perfect Rational Agent (Gabaix-Laibson 2006, Chetty at al. 2009, etc) Selective Salient Thinker FAST (BGS 2013) (this paper) FBORs: forgetful but otherwise rational FASTs: forgetful and salient thinkers 3 / 19
4 An Example Appliance Insurance (Huysentruyt and Read, 2010) Sellers of appliances remind customers of the risk of appliance breakdown, and offer insurance Buyers of appliances vastly overpay for such insurance Evidence suggests that selling such policies makes up a large share (up to 50%) of retailers profit Buyers are surprised by the reminder that an appliance can break. They overreact to information and purchase overpriced insurance Role of memory: the buyer is surprised by the reminder because he forgot about breakdown Role of salience: the surprise induces the buyer to overweight breakdown risk 4 / 19
5 Model Goods k (q k, p k, f k ) qk and p k are visible, f k is hidden Good k yields rational utility u(q k, p k, f k ) = θ q q k p k + θ f f k f k is shrouded cost (θ f < 0) or quality (θ f > 0) that obtains with probability θ f TV breakdown, maintenance costs, sales tax 5 / 19
6 Model Consumer has unit demand and faces the (visible) choice set C v = {(q k, p k )} k=1,...,k Rational Benchmark: the consumer recalls f k s, and recreates the full choice set {(q k, p k, f k )} k=1,...,k he chooses k = argmax k u(q k, p k, f k ) 6 / 19
7 Model We describe a 3-stage process Stage 1: Consumer observes C v cue to recall information used in choice Stage 2: Selective Recall (new model). For each good k: may recall the shrouded attribute f k Stage 3: Selective Attention and Valuation (model with BGS) evaluates options by inflating attributes that stand out in light of the information recalled 7 / 19
8 Stage 2: Selective Recall and Shrouded Attributes Recall of attribute f is driven by availability a (θ f, e k (f k )) ek (f k ) is consumer exposure to f k for good k (e.g. past occurrences, advertising,... ) a (, ) increases in both arguments, assume a(θf, θ f ) = θ f The perceived choice set is: {(q k, p k, f k )} k {(q k, p k, [f k ])} k = {(q k, p k )} k C v if a(θ f, e k (f k )) > a otherwise a (0, 1] f neglected when θ f and/or e k (f k ) low for all k 8 / 19
9 Stage 3: Salience and Valuation (BGS 2013) Salience of good k s attribute x k {q k, p k, f k } is σ(x k, x) measures proportional distance of x k from reference level x (ordering and homogeneity of degree zero) reference x is the average in C q = k=1,...,k q k K, p = k=1,...,k p k K, f = k=1,...,k Valuation: when f neglected 2 u S 1+δ [q k δp k ] if quality is salient, σ(q k, q) > σ(p k, p) 2 (q k, p k ) = 1+δ [δq k p k ] if price is salient q k p k if equal salience f k K FBORs have δ = 1, FASTs have δ < 1. 9 / 19
10 Forgotten Attributes: a Simple Example Choice between two laptops: u(q k, p k, f k ) = q k p k θf k, k = 1, 2 f k are maintenance costs, incurred with probability θ q1 q 2, p 1 p 2 and f 1 f 2 Suppose a > a(θ, e(f k )) both θ and e(f ) are low (e.g. first time buyers) C = {(q1, p 1 ), (q 2, p 2 )} FBOR s (δ = 1) decision is: choose laptop 1 iff q > p 10 / 19
11 Forgotten Attributes: FASTs FAST s (δ < 1) decision: Quality is salient for laptops k = 1, 2 provided: ( σ q k, q ) ( 1 + q 2 > σ p k, p ) 1 + p 2 ı.e. 2 2 FAST picks the expensive laptop 1 when q 1 p 1 > q 2 p 2 q > δ p too likely to pick 1 because: i) neglects higher maintenance costs ii) focuses on higher quality 11 / 19
12 Forgotten Attributes: Reaction to Information Suppose the consumer is reminded of maintenance costs f comes to mind: e(f k ) = 1 and a < a(0, 1) Representation of the choice set becomes comprehensive C = {(q 1, p 1, f 1 ), (q 2, p 2, f 2 )} FBOR updates relative valuation of laptop 1 by u FBOR 12 = [u(q 1, p 1, f 1 ) u(q 2, p 2, f 2 )] [u(q 1, p 1 ) u(q 2, p 2 )] = θ f < 0 chooses laptop 1 when q θ f > p reminder debiases consumer and increases his welfare (measured by true utility function) 12 / 19
13 Forgotten Attributes: Reaction to Information How does FAST (δ < 1) react to reminder? If maintenance costs are least salient, i.e. f 1 f2 < p 1 p 2 < q 1 q 2 FAST underweights f, updates relative valuation of 1 by u FAST 12 > δ 2 θ f > θ f underreaction If maintenance costs are most salient, i.e. f 1 f2 > q 1 q 2 > p 1 p 2 FAST overweights f, updates relative valuation of 1 by u12 FAST < 2 + θ δ + δ 2 θ f < θ f + θ overreaction here, reminder may decrease welfare 13 / 19
14 Application 1: (Un)Shrouding Attributes This logic is relevant for literature on shrouded attributes Conventional view (Ellison 2005, Gabaix and Liaison 2006) firms often choose not to disclose all costs, or to make them difficult to access unshrouding benefits unaware consumers, who reoptimize Our model seeks to explain which attributes are liable to be neglected by consumers, and analyzes reaction to unshrouding Example of appliance insurance: the firm benefits from unshrouding because information provision causes an over-reaction Without over-reaction, the consumer would be willing to pay only the small actuarially fair price 14 / 19
15 Application 1: (Un)Shrouding Attributes Example: buying a TV with u = (1 θ)q 1 + θq 2 p breakdown risk: with prob. θ yields quality q 2 = 0 low availability a(θ, e), since both θ, e are low If a > a(θ, e), set θ = 0 and C = {(q 1, p), (0, 0)} Visible attributes are equally salient σ(q 1, q) = σ(p, p) = σ(1, 1/2) Thus u S = q 1 p, and consumer s WTP TV equals q 1 WTPTV too high by an amount θq 1 (neglected risk) 15 / 19
16 Application 1: (Un)Shrouding Attributes Yet sellers often unshroud hidden risks (Huysentruyt and Read 2010) Under simple unshrouding, choice becomes C = { (q1, 0, p) TV no insurance (0, 0, 0) No TV q1 and p are equally salient, breakdown risk least salient TV valuation drops by θq 1 Under unshrouding+insurance, choice becomes C = (q 1, q 1, p ) TV insurance (q 1, 0, p) TV no insurance (0, 0, 0) No TV Breakdown risk becomes very salient for both TVs e.g. for TV insurance : q 1 q > p 1/3 (p + p)/3 > q1 2q for 1/3 p > p 16 / 19
17 Application 1: (Un)Shrouding Attributes Under unshrouding+insurance, risk is salient. For δ low: consumer is willing to overpay for insurance, WTP TVinsurance > p + θq 1 profits from unshrouding may be higher than from shrouding (where seller can set at most p = q 1 ) WTP TVinsurance [c + θq 1 ] > q 1 c so sellers profit most from informed consumers (unlike GL2006) Other evidence consistent with overreaction to surprises Bill shock (Grubb 2009, Ater and Landsman 2013) 17 / 19
18 Application 2: Effects of Reminders Conventional view (Chetty et al 2009, Allcott and Taubinsky 2014, Karlan et al 2014) consumers forget relevant attributes of choice problem given reminders, change in behavior reflects optimal use of information Our model seeks to explain which aspects are neglected, suggests reaction to reminders need not be welfare increasing Example: people may neglect sales tax due to low exposure (Chetty et al 2009) reminders of sales tax may make price dimension salient, drastic reduction in consumption Salience may amplify, or dampen, effects of reminders demand response may mis-represent welfare cost of forgetting 18 / 19
19 Conclusion Model of Recall endogenizes what comes to mind Recall combines backward- and forward- looking elements Paper shows how recall shapes reference points Information is surprising if different from what comes to mind Consumers over-react to surprising information effective design of reminders (e.g. scare tactics) and sales welfare effects of reminders More broadly: Persuasion and Advertising affect recall through exposure shape consumer reaction to information 19 / 19
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