According to the favorite-longshot bias, longshots are overbet relative to favorites: the expected return on an outcome tends to increase in the fraction of bets laid on that outcome. We propose an information-based explanation for this bias (and its reverse) in parimutuel markets. The bias arises because bettors take positions with- out knowing the positions simultaneously taken by other privately informed bettors. The direction and the extent of the bias depend on the amount of private information relative to noise present in the market. The comparative statics predictions of the model are in line with evidence from parimutuel games.

This paper studies the implications of the inherent conflict between two tasks performed by sales agents: prospecting for customers and advising on the suitability of the product sold. When structuring their salesforce compensation, firms trade off the expected losses resulting from “misselling” with the agency costs of providing marketing incentives. We characterize how the equilibrium amount of misselling and the scope for policy intervention depend on a number of features of the identified agency problem, such as a firm’s internal organization of the sales process, the transparency of its commission structure, and the steepness of its agents’ sales incentives.

When should principals dealing with a common agent share their individual performance measures about the agents unobservable effort? In a model with two principals who offer linear incentive schemes, we show that information sharing always increases total expected welfare if the principal who is less informed about the agent’s effort also cares more about the agent’s output. If the less informed principal cares somewhat (but not too much) less than the other principal about the agent’s output, information sharing reduces total expected welfare.

The ability of groups of people to make predictions is a potent research tool that should be freed of unnecessary government restrictions.

How should a monopolist price when selling to buyers who learn from each other’s decisions? Focusing on the case in which the common value of the good is binary and each buyer receives a binary private signal about that value, we completely answer this question for all values of the production cost, the precision of the buyers’ signals, and the seller’s discount factor. Unexpectedly, we find that there is a region of parameters for which learning stops at intermediate and at extreme beliefs, but not at beliefs that lie between those intermediate and extreme beliefs.

This paper analyses competition and mergers among risk averse banks. We show that the correlation between the shocks to the demand for loans and the shocks to the supply of deposits induces a strategic interdependence between the two sides of the market. We characterise the role of diversification as a motive for bank mergers and analyse the consequences of mergers on loan and deposit rates. When the value of diversification is sufficiently strong, bank mergers generate an increase in the welfare of borrowers and depositors. If depositors have more correlated shocks than borrowers, bank mergers are relatively worse for depositors than for borrowers.

This paper studies a model of strategic communication by an informed and upwardly biased sender to one or more receivers. Applications include situations in which (i) it is costly for the sender to misrepresent information, due to legal, technological, or moral constraints, or (ii) receivers may be credulous and blindly believe the sender's recommendation. In contrast to the predictions obtained in the benchmark cheap talk model, our model admits a fully separating equilibrium, provided that the state space is unbounded above. The language used in equilibrium is inflated and naive receivers are deceived.

This paper presents a framework for applying prediction markets to corporate decision-making. The analysis is motivated by the recent surge of interest in markets as information aggregation devices and their potential use within firms. We characterize the amount of outcome manipulation that results in equilibrium and the impact of this manipulation on market prices.

We study dynamic pricing by a monopolist selling to buyers who learn from each other’s purchases. The price posted in each period serves to extract rent from the current buyer, as well as to control the amount of information transmitted to future buyers. As information increases future rent extraction, the monopolist has an incentive to subsidize learning by charging a price that results in information revelation. Nonetheless, in the long run, the monopolist generally induces herding by either selling to all buyers or exiting the market.

This paper studies the causes and the consequences of horizontal mergers among risk-averse firms. The amount of diversification depends on the allocation of shares among the merging firms, with a direct risk-sharing effect and an indirect strategic effect. If firms compete in quantities, consolidation makes firms more aggressive. Mergers involving few firms are then profitable with a relatively low level of risk aversion. With strong enough risk aversion, mergers reduce prices and improve social welfare. If firms instead compete in prices, consumers do not benefit from mergers in markets with demand uncertainty, but can easily benefit with cost uncertainty.

We introduce the possibility that the receiver naively believes the sender’s message in a game of information transmission with partially aligned objectives. We characterize an equilibrium in which the communication language is inflated, the action taken is biased, and the information transmitted is more precise than in the benchmark fully-strategic model. We provide comparative statics results with respect to the amount of asymmetric information, the proportion of naive receivers, and the size of the sender’s bias. As the state space grows unbounded, the equilibrium converges to the fully-revealing equilibrium that results in the limit case with unbounded state space.

This paper studies strategic communication by an expert who is concerned about appearing to be well informed. The expert is assumed to observe a private signal with a simple and particularly tractable (multiplicative linear) structure. The quality of the expert's information is evaluated on the basis of the advice given and the realized state of the world. In equilibrium of this reputational cheap-talk game, no more than two messages are effectively reported. The model is extended to consider sequential communication by experts with conditionally independent signals. In the long run, learning is incomplete and herd behavior arises.

We analyze information reporting by a privately informed expert concerned about being perceived to have accurate information. When the expert’s reputation is updated on the basis of the report as well as the realized state, the expert typically does not wish to truthfully reveal the signal observed. The incentives to deviate from truthtelling are characterized and shown to depend on the information structure. In equilibrium, experts can credibly communicate only part of their information. Our results also hold when experts have private information about their own accuracy and care about their reputation relative to others.

We develop and compare two theories of professional forecasters’ strategic behavior. The first theory, reputational cheap talk, posits that forecasters endeavor to convince the market that they are well informed. The market evaluates their forecasting talent on the basis of the forecasts and the realized state. If the market expects forecasters to report their posterior expectations honestly, then forecasts are shaded toward the prior mean. With correct market expectations, equilibrium forecasts are imprecise but not shaded. The second theory posits that forecasters compete in a forecasting contest with pre-specified rules. In a winner-take-all contest, equilibrium forecasts are excessively differentiated.

This paper studies the role of economic policy for the transition from analogue to digital television, with particular attention to the switch off of the analogue terrestrial signal. The analogue signal cannot be credibly switched off until almost all viewers have migrated to digital, due to the policy objective of universal access to television. But before switch off, only part of the population can be reached with the digital signal. In addition, those who are reached need to spend more to upgrade their reception equipment than after switch off, because the capacity to increase the power of the digital signal will be made available only then. After reviewing the competitive structure and the role of government intervention in television markets, we present the early experience of a number of industrialized countries in the transition to digital television. We then formulate a micro-econometric model of digital television adoption by individual viewers. The model is calibrated to UK data and simulated to predict the impact of government policies on the take-up of digital television. Policy makers can affect the speed of take up of digital television by: (1) controlling the quality of the signals and the content of public service broadcasters; (2) intervening in the market for digital equipment with subsidies; and (3) publicizing the conditions and date of switch off of the analogue signal. We find that if the analogue terrestrial signal is switched off only when certain aggregate adoption targets are reached, strategic delays may arise and expectations may affect the success of the switch off policy.

We analyze a binary prediction market in which traders have heterogeneous prior beliefs and private information. Realistically, we assume that traders are allowed to invest a limited amount of money (or have decreasing absolute risk aversion). We show that the rational expectations equilibrium price underreacts to information. When favorable information to an event is available and is revealed by the market, the price increases and this forces optimists to reduce the number of assets they can(or want to) buy. For the market to equilibrate, the price must increase less than a posterior belief of an outside observer.

Forecasting is modeled as a rank-order contest with privately informed players. Rank-order contests are shown to be natural generalizations of Hotelling’s classic location game. Positioning at the posterior mean is shown to be a Nash equilibrium in a perfectly symmetric setting with no prior information. In the presence of prior information the equilibrium is no longer at the posterior mean. Pure-strategy equilibria are shown to exist when the state space is discrete and the signal space continuous. A differential equation characterization of the symmetric equilibrium is provided for the winner-takes-all contest, in which only the forecaster with the lowest forecast error is rewarded. According to numerical simulations, in a winner-takes-all contest the amount of differentiation increases in the number of forecasters. If instead the forecaster with the highest forecast error is the only one to be punished, the amount of differentiation decreases in the number of players, and extreme conservatism results in the limit with an infinite number of forecasters. The more convex is the prize structure, the greater the incentive to differentiate.

This paper compares the outcomes of parimutuel and competitive fixed-odds betting markets. In the model, there is a fraction of privately informed bettors that maximize expected monetary payouts. For each market structure, the symmetric equilibria are characterized. In parimutuel betting, the return on longshots is driven to zero as the number of insiders grows large. In xed odds betting instead, this return is bounded below. Conversely, the expected return on longshots is increasing in the amount of insider information in a parimutuel market, but decreasing in a fixed-odds market. The market structure also affects the sign of the comparative statics predictions on the favorite-longshot bias.

We propose a dynamic model of parimutuel betting that addresses the following three empirical regularities: a sizeable fraction of bets is placed early, late bets are more informative than early bets, and proportionally too many bets are placed on longshots. Exploiting a similarity with Cournot oligopoly, we show that bettors have an incentive to bet early when they are large and act on common information. Bettors who are instead privately informed and small have an incentive to bet at the end without access to the information of the others. Longshots (or favorites) are then less (or more) likely to win than indicated by the market odds.

In betting markets, the expected return on longshot bets tends to be systematically lower than on favorite bets. This favorite-longshot bias is a widely documented empirical fact, often perceived to be an important deviation from the market efficiency hypothesis. This chapter presents an overview of the main theoretical explanations for this bias proposed in the literature.

This paper investigates the incentives of broadcasters to use subsidies and sunset dates to affect the viewers’ decisions to switch from analog to digital television. It is shown that when viewers have identical preferences for digital television, it is never optimal for the broadcaster to subsidize just a fraction of viewers. When instead viewers have different valuations, broadcasters might want to induce viewers to switch gradually. Implications for welfare and effects of universal service requirements on equilibrium outcomes are also discussed.