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We develop a model to study market interaction between rational firms on one side of the market and boundedly rational consumers on the other. A special feature of bounded rationality is modelled here: from psychological evidence, people tend to group events or numbers into categories; therefore we consider consumers who partition the price space into connected sets and regard each price belonging to the same set as equal. According to Rubinstein (1993), we endogenize the choice of the price partition by consumers, who determine the optimal price partition given the constraint imposed on their ability to process information on prices. We develop a model with two firms and two states of nature. We show that we depart from classical Bertrand result when consumers are characterized by a bound on the finiteness of price partition inferior to the cardinality of the space of world states. In other words, in presence of consumers who can partition the price space into two sets and with two states of the world, firms find optimal to set price above marginal cost, making positive profits. The intuition of the result can be explained as follows: when a consumer chooses the price partition, she faces a trade off between the detection of the state of nature and the detection of a deviating behavior of the firm in a given state of nature.

We develop a model of one representative agent and one asset. The agent evaluates the earnings according to Prospect Theory and he does not know exactly the stochastic process generating earnings. While the earnings are generated by a random walk process, the agent considers a Markovian process, according to which firm's earnings move between two regimes, represented by a mean-reverting process and a trend process, as in Barberis, Shleifer and Vishny (1998). We study how an agent who is loss averse evaluates the price of a stock when she takes into account the wrong stochastic process. This twofold departure from rationality determines permanent effects on stock prices, even in long run. First, the model shows that agent who evaluates the asset according to Prospect Theory consistently underestimates the asset, due to loss aversion bias. This is shown under two different assumption regarding the functional form of utility. A kinked linear utility function (as in Bernatzi and Thaler, 1985) and the original and more general specification of Kahneman and Tversky (1979) are used. The model allows to explain observed phenomenon in the cross-section earnings return distribution. We solve this model and according to Barberis et all (1998), we evaluate the framework by using artificial data sets of earnings and prices simulated from the model. For plausible range of parameter values, it generates the empirical predictions of overreaction and underreaction observed in the data are explained.

We depart from the classic setting of bandit problems by endowing the agent with a disappointment-elation utility function. The disutility of a loss is assumed to be greater than the elation associated with same-size gain, according to Kahneman-Tversky findings on the attitude of agents towards a change in wealth. We characterise the optimal experimentation strategy of an agent in a two-armed bandit problem setting with infinite horizon and we derive an existence theorem, specifying a condition on the disappointment aversion parameter. The model, solved in closed form in a one-armed bandit setting, shows that an agent who feels disappointment experiments more intensively than the agent characterised by the standard expected utility model, despite disappointment, but only if the degree of disappointment is under a certain threshold level. The threshold level depends both on the probability of rewards along the unknown projects relative to the expected number of trials and on the expected reward of the unknown project.

Abstract:The different role played by case law and the historical and conceptual differences between the doctrines of precedent in common law and civil law traditions are important determinants of judicial creativity. In this article, we consider a hybrid version of stare decisis, called by the French name of jurisprudence constante, adopted by mixed jurisdictions. Unlike stare decisis, which allows a single precedent to establish case law, the doctrine of jurisprudence constante links the recognition of a judge-made rule to the existence of a consecutive line of decisions affirming the same legal principle. We develop a model to consider the effects of this doctrine on the social costs arising from judicial error and uncertainty in case law. We further consider the effects of these alternative doctrines of precedent on judicial creativity and ideological bias in judge-made law.

AbstractIn litigation models, the parties' probability to succeed in a lawsuit hinge upon the merits of the parties' claims and their litigation efforts. In this paper we extend this framework to consider an important procedural aspect of the legal system: the standard of proof. We recast the conventional litigation model to consider how alternative standards of proof affect litigation choices. We analyze the interrelation between different standards of proof, the effectiveness of the parties' efforts, and the merits of the case. We study how these factors jointly affect the parties' litigation expenditures, the selection of cases brought to the courts, pretrial bargain solutions and preemptive strategies. Our results show that standards of proof are not only instrumental to balancing the competing goals of access to justice and judicial truth-finding, but they also play a critical role in affecting parties' litigation investments and settlement choices, and in sorting the mix of cases that will actually be filed and defended in courts. The understanding of the sorting effect of standards of proof sheds light on their role as a policy instrument in civil litigation.