Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/260331 
Year of Publication: 
2021
Series/Report no.: 
Working Paper No. 2021:11
Publisher: 
Lund University, School of Economics and Management, Department of Economics, Lund
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.
Subjects: 
Adverse selection
Bounded rationality
Categorization
Learning
Model misspecification
OTC markets
JEL: 
C70
C73
D82
D83
D91
Document Type: 
Working Paper

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