Abstract

We present a cobweb model to explain price adjustment in a competitive market with homogeneous firms based on assumptions from Prospect Theory. Price changes are evaluated with respect to a psychological reference price which enters directly into the demand function. Accordingly, firms face a downward-sloping demand curve that is kinked at the consumers' reference price. Differently from the traditional cobweb model, the economy is described by a discontinuous map. Without assuming specic non-linearities and keeping the essential underlying mechanics of the model intact, we nd that the implementation of several features from Prospect Theory into our simple cobweb model may signicantly influence the market dynamics. Behavioral parameters play an important role for the market stability by reducing fluctuations and by directly affecting consumers' demand as well as production decisions.
Original languageEnglish
Pages (from-to)763-778
Number of pages16
JournalJournal of Evolutionary Economics
Volume2019
DOIs
Publication statusPublished - 2018

Keywords

  • Behavioral Economics
  • Cobweb model
  • Complex dynamics
  • Discontinuous maps
  • Reference Price
  • Transaction Utility

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