Endogenous Information Acquisition for an Overconfident Retailer

Abstract

Overconfidence has been proven to be “one of the most consistent, powerful and wide spread cognitive biases”. In this paper, we develop a model in which a supplier selling to an overconfident retailer invests in acquiring market information. Overconfidence causes the retailer to overestimate the precision of his private information as well as his capacity to acquire information. Our work shows that overconfidence hurts the retailer’s profits, and may even eliminate the benefits of information. Instead, the supplier can benefit from the retailer’s overconfidence. We demonstrate that this bias with an endogenous information-acquisition effort can coordinate the supply chain to achieve its first-best benchmark.