AGEC 5303
Experiments do not succumb to the pressures/temptation to
"oversell" results
My WTP for a Vanilla Coke is $1.50, or
$2 if I'm really thirsty.
What is an experiment?
- a controlled investigation to determine causal relationships between variables - a way to create the ceteris paribus condition by systematically collecting data according to a design
(4) Compare environments
- comparing environments using the same institution (e.g. same type of auction) permits an investigation of the robustness of that institution
Loss aversion and endowment effect brain activity
Associated with regions of brain implicated in negative emotions Weber et al. (2007) - found higher amygdala activation when selling Amygdala associated with negative emotions such as fear of losing something
Endowment Approach Disadvantages:
Endowment effect i.e., individuals might place greater value on a good if they possess it than if they do not Loss aversion effect = where losses are valued more highly than gains
WTP-WTA disparity 7. Ambiguity and Risk Aversion:
Purchases or sales involve some ambiguity: ► market price of a good or its substitutes ► characteristics of the good ► how much enjoyment it will bring once purchased ► how much it will be missed once sold.
Memory Utility
In addition to consumption, I might also derive utility from memories of previous experiences. Consuming something today versus tomorrow yields one more day of pleasant memories
How do some companies take advantage of mental accounting of sunk costs?
Membership fee being viewed by customers as an investment
Choice Architecture
Menus, store layout, Includes nudges, Default Option
Non-representative program
Scale effects Treatment differs in actual implementations Actual implementations are not randomized
RFID Prediction
Sometime within the next ten years, the RFID network will become the preferred global product identification capability for management
Field experiment in List (2003)
Sportscard shows, sports memorabilia. Professional dealers vs. ordinary consumers (different levels of market experience). 1. Asked them to participate and fill out a questionnaire. 2. Endowed them with Good A or B as an exchange for filling out the questionnaire. 3. Asked them whether they wanted to trade with Good B or A. Results: The actual percentages of subjects (pooled sample) who chose to trade were 32.8% (23 of 70) and 34.65% (27 of 78), suggesting that WTA > WTP BUT! Dealers who chose to trade were 45.7% and 43.6% while non-dealers (ordinary consumers) who chose to trade were 20% and 25.6% respectively. Market experience tends to reduce the endowment effect!
Two general product valuation approaches
Stated Preference Methods ⚫ Revealed Preference Methods
Reasons for exchange asymmetry:
Loss aversion, Gain attraction, baised against trading and avoid, regret avoidance, preference indifference or imprecision
Creation and Maintenance of Subject Pool
Manner in which subjects are recruited, instructed, and paid can affect outcomes
REVEALED PREFERENCES (Observed Behavior) Direct
Market Price • Simulated Markets • Incentive compatible Economic experiments
WTP-WTA disparity 5. Endowment effect and loss aversion:
The fact that people often demand much more to give up an object than they would be willing to pay to acquire it. A good's value increases once it becomes part of an individual's endowment (Thaler, 1980).
Mental accounting exploitations: Anti-smoking devices
emphasize savings of $730 a year rather than $2 a day
Most 401(K) plans use an opt-in design
employees filling an enrollment form to join. The alternative is automatic enrollment, employees receiving the same information, but are told that they may register to opt-out.
Attachment - psychology of ownership
endowment effect appears to be stronger the longer subjects have owned an object (Strahilevitz and Loewenstein 1998)
Uncertainty adjustment
inclusion of "no answer" or "don't know" as an explicit option
Which of these is/are reasons why economists conduct experiments
test a theory, establish empirical regularities as a basis for new theory, evaluate policy proposals
premium is a payment
that a household expects to make
deductible is a payment
that arises only in unlikely event
Ramsey (1930s), Strotz (1950s), & Herrnstein (1960s) were the first to understand
that discount rates are higher in the short run than in the long run.
In neoclassical model Economists traditionally can only handle?
the Changes in Preferences Due to Consumer Information
A Demand Function Expresses?
the Quantity Demanded is a Function of Income and Prices
Nudge Examples
• Default rules (e.g. trayless cafeterias, portion sizes) • Simplification • Use of social norms • Increase ease of access and use • Disclosure and transparency • Warning signs (visual or other) • Self-binding tools • Reminders • Trigger intentions to change
which on of the following characterizes the idea that people are much more sensitive to losses than equal sized gains
loss aversion
Beliefs about the future? Partial naifs:
mistakenly believe that β=β * in the future where β < β * < 1 (O'Donoghue and Rabin, 2001)
n PC, WTP can be interpreted as?
the mean value of a valuation distribution
Neuroeconomics looks at the role of the brain when we evaluate decisions, categorize risks and rewards, and interact with each other
true
Walmart uses a system called "traiting" to determine not only if a given product should be carried in a particular store given the demographic makeup of the trading area, but also where it should be stocked in the store's layout
true
on of the group presentations last week indicated that naifs are more likely to behave unhealthy than sophisticates
true
one of the biggest active choice obstacles for supply chain management is resistance to change
true
the endowment effect article you read showed us that the endowment effect can be largely attributed to loss aversion
true
the possibility effect causes highly unlikely outcomes to be weighted disproportionately more than they deserve
true
(5) Compare institutions
- using identical environments but varying the market rules of exchange (e.g. comparing different types of auctions)
Random Nth Price advantages
-keeps all bidders engaged in multiple rounds -high degree of market feedback if desired
Mental Accounting Due to the value function:
1) Gains should be segregated. Due to the concavity of gains, u(x) + u(y) > u(x+y) That is, someone who wins $100 prize and also wins a $50 prize is happier than someone who wins a $150 2) Losses should be integrated. The opposite holds for losses, due to convexity: u(-x) + u(-y) < u(-x-y) Someone who has to pay $100 fine and a $50 fine is worse off than someone who has to pay a $150 fine
The workhouse of economic modeling is homo-economicus (Econs), an agent who:
1. Optimally maximizes his expected utility. 2. Optimally updates his beliefs. 3. Self-interested and without emotion, or, more formally, does not care about the consumption and utility of others.
Markets are complicated while lab environments are often relatively simple
As much a criticism of the theories as of the experiments If experiment structured to be consistent with theory, then perhaps theory has omitted some potentially important feature of the economy or market If theory fails to work in a simple experiment, then there is little reason to expect it to work in a more complicated natural world
Old paradigm
Firm gained synergy as a vertically integrated firm encompassing the ownership and coordination of several supply chain activities. Organizational cultures emphasized short-term, company focused performance.
The basic assumption of standard economic theory is that among all the affordable consumption bundles, people choose the best one.
One way that assumption might fail is if the utility maximization problem is too hard to solve; this is the problem of bounded rationality. Another cause of nonmaximizing behavior is a lack of willpower.
Autism Project: Carnegie Mellon
Testing the theory that the cognitive deficits that autistic individuals exhibit in tasks that require the coordination or integration of several brain regions are due in large part to an underconnectivity among brain areas. The converging evidence from a variety of tasks is expected to produce a characterization of autism that will provide new insights for therapy and for facilitating daily functioning.
In most cases, welfare effects involve cumulative behavior
That's why we use short-run proxies - waiting for the cumulative effects to play out is costly in many ways)
Behavioral economics should be?
Theoretically grounded but evidence based - adopting a deductive approach in which hypotheses and assumptions are based on observations about human behavior. • Not replace our grand rational choice model or neoclassical paradigm. BE theories will more like a set of practical enhancements that can lead to better predictions about behavior. • BE simply one part of the growing importance of empirical work in economics (note: theory papers in top econ journals has fallen from 50% in 1963 to 19% in 2012)
Most of discounting takes place between current period and immediate future
There is little additional discounting between future periods • Discount function reflects dynamic inconsistency: preferences held at date t do not agree with preferences held at date t+1.
Demand reduction and wealth effects
These effects confound a study's results if subjects are asked to purchase several different goods or if they are asked to purchase multiple units of a single good Winning participants could lower their bid each subsequent round and or cause bids for the goods to be lower in each round So research results may be an artifact of poor experimental design instead of a reflection of true preferences
Controlled Experiments
A convincing method of creating the counterfactual since they directly construct a control group via randomization. Randomization acts as an instrumental variable by creating variation in treatment among participants:
New paradigm
Firm in a supply chain focuses activities in its area of specialization and enters into voluntary and trust-based relationships with supplier and customer firms.
Cheap Talk
First introduced by Cummings and Taylor AER 1999), then used by Lusk AJAE 2003; Loureiro, Gracia & Nayga ERAE 2006) ⚫ An ex ante calibration technique in which the researcher attempts to elicit unbiased responses by reading a script that draws respondents' attention to the hypothetical bias ⚫ See Silva, Nayga, Campbell and Park (2011) JARE paper on cheap talk
Biological states influence choice
Hunger, fatigue, pain...+ emotions, anxiety
Uncertainty about the future
I could get hit by a truck, or a meteor, or a truck full of meteors on my way home
Probably the single most powerful tool in BE arsenal
Loss Aversion
WTP-WTA disparity 8. Responsibility:
When responsibility is felt and a potentially damaging or harmful outcome is possible, inaction is commonly favored over action. People feel less bad if the harm just happens than if they acted in a way that caused it. Selling, but not buying, emphasizes the moral aspects of goods, presumably because selling implies responsibility
Time Inconsistency
When the optimal decision at one point in time is no longer the optimal choice at another point in time
Your Willingness to Accept (WTA) for a good is the minimum amount of money you would require in order to give up your good.
WTA: If you give me $1.50 you can have my Vanilla Coke, but if I'm really thirsty you have to give me $2.
According to standard economic theory, WTP = WTA. Why?
WTP: lose $, gain the good: -u($) = u(good) WTA: gain $, lose the good: u($) = -u(good)
hyperbolic discounting
We overweight time periods that are closer to the present relative to time periods that are further in the future.
Are there cases when default is not going to affect behavior?
When people have well defined and strong preferences
Internet
allows companies to communicate with suppliers, customers, shippers and other businesses around the world, instantaneously
Discount function declines at a
constant rate
Impatience
consumption today is better than consumption tomorrow
What type of discounting can better represent this: "people from lifetime consumption plans and execute them accordingly"
exponential discounting
Enabling Technologies• Electronic Data Interchange (EDI)
facilitates the standardized exchange of data between companies
According to liabson 2020, the longer term welfare effects the nudges tend to be large
false
According to one of the group presentations last week, walmart is still not using blockchain technology in its pilot food traceability system
false
According to the science of experimental economics article, economic theory cannot provide an important input for the design of most economic experiments
false
In terms of breadth of supplier base, supply chain management is characterized by the need to have large supplier base to increase competition and spread risk
false
The probability weighting function we discussed last week suggests that people tend to overweight high probability events
false
Neuro Economics Can _____________ the choice algorithm as implemented in the brain
measure
Synchronized Production
synchronizing production to consumer demand by only producing those products that are actually required, by consumer demand
Treatment Effects in Experiments Let:
t = treatment effect y1 = outcome with treatment y0 = outcome without treatment p = {1 if participated in experiment, 0 if not} In the typical experiment, the treatment effect can be measured as: E( | 1) E(y y | 1) 1 0 t p p
Radio frequency identification (RFID)
technology can send product data from an item to a reader via radio waves
Supply Chains are important because
they allow organizations to optimize their processes over their Suppliers and improve service to their Customers!
People dislike losses relative to the reference point more than
they like same-sized gains.
Objective of A Demand Analysis is?
to Investigate the Impacts of Income and Prices on Demand for A Particular Good
aim of SCM
to deliver superior consumer value at less cost to the SC as a whole while satisfying the requirements of other stakeholders in the SC
One alternative approach to default choice is?
to ensure each individual makes an affirmative choice between whether or not to enroll in such program.
Primary objective of neuroeconomics
to get inside the function f by studying brain processes Processes that determine neural activity Neural processes that determine decisions
Based on loss aversion, annuity is
unappealing because the individual is more sensitive to the potential loss on the annuity (if he dies soon) than to the potential gain (if he lives a long time).
Risk averse buyers →
underestimate a good's value
Loss aversion is the leading paradigm for
understanding endowment effect
Artefactual Field Experiments Reason for often use of students
use of "real" people entails logistical problems
Common criticism of conventional lab experiments
use of students and not "real" people
Choosing default is a choice heuristic
use simple rules such as following the default, also to avoid mental cost
Innovation processes are
way to slow
NFE
we can estimate effect on total population of interest
Lab, AFE, FFE =
we don't know the effect on non-participating individuals because we only have data on those who were willing to participate in the study
Between any two future periods, an agent has time consistent preferences. • However
when one of the periods involved is the present, the agent disagrees and experiences present-bias.
SCOR model metrics include:
• On-time delivery performance • Lead time for order fulfillment • Fill rate - proportion of demand met from on-hand inventory • Supply chain management cost • Warranty cost as a percentage of revenue • Total inventory days of supply
(7) Lab as a testing ground for new institutional designs/ mechanisms/ procedures
e.g., OECE design (see Corrigan, Depositario, Nayga, Wu, & Laude 2009 AJAE paper) - testbed for economic design - test external validity (lab vs field/real world?)
2nd Price advantages
easy to explain and implement -only one unit of good is sold, easing expt. Preparation
Cross Docking
eliminating the storage of products at the retailer distribution center by transferring, re-consolidating and distributing products within 24 hours to the stores
which of these is a distinct finding from the endowment effect literature
exchange asymmetry
Biological states do not influence choice behavior
false
ITT analysis does not include subjects who withdrew from the experiment after randomization
false
constant per peiod discounting implies time inconsistency
false
if the same choice is framed as a gain rather than a loss, the same decision will be made
false
people tend to think in absolute terms rather than in proportional terms
false
which of these is a reason why for many people, something that happens in the future is worth less than something that happens in the present
memory utility
Beliefs about the future? Naifs
mistakenly believe that their plans to be patient will be perfectly carried out (Strotz, 1957). Think that β=1 in the future. • "I will quit smoking next week, though I've failed to do so every week for five years."
A realized loss is always
more painful than a paper loss.
As per our discussion last week, which of these is a characteristic of supply chain management
none of the above
Volume forecasting is
not working
Hyperbolic Discounting Another way of thinking about it is that there are multiple selves:
our future selves, who are all in agreement with each other about the right plan of action, and our present self who wants immediate gratification
Loss aversion
if default is treated as a reference point, dimensions on which the rival option is worse than the default get relatively more weight than dimensions on which the rival option is better
WTP
if property rights are owned by someone other than the individual of interest
Consequentiality
if respondent cares about the policy and views her response as potentially influencing agency action.
Given high cost of product launch and low probability of new product success
important for food industry and marketers to utilize approaches that will yield accurate valuations!
Weeks of inventory
is the ratio of average inventory to the average weekly sales
Inventory Turnover
is the ratio of the cost of goods sold to the value of average inventory.
Total Supply Chain Cost
is the sum of all supply chain costs for all products processed through a supply chain during a given period
Average Response Time
is the sum of delays of ordering, processing, and transportation between the time an order is placed at a customer zone and the time the order arrives at the customer zone
Preference indifference or imprecision
lack of a clear ranking of the goods provides the subjects with no help in deciding whether to trade or not.
Emotions are Culturally universal and in
many species
Ran experiment with participants in sports card shows Inexperienced traders displayed strong reluctance to trade Reluctance declines with participants' trading experience conclusion?
market experience can help people overcome endowment effect
Randomization This yields a
treatment effect estimate of the mean outcome differences between treated and non-treated subjects from the p = 1 group.
tendency to select the default option can increase when the decision maker has had to make taxing decisions in the recent past
true
Disorganization
with ordering larger or smaller amounts of a product than is needed due to an over or under reaction to the supply chain beforehand.
Value chain
• every step from raw materials to the eventual end user • ultimate goal is delivery of maximum value to the end user
Hypothetical Valuation of New Goods
⚫ lacks salient economic commitment ⚫ Can be in both payment and provision of the good in question ⚫ We do not know then what an individual says they would do matches what they will do when actually given the opportunity to do so
People do not use objective probabilities
rather use transformed transformed probabilities using the weighting function w(·) that overweights low probabilities
Bullwhip Effect
refers to a trend of larger and larger swings in inventory in response to changes in customer demand, as one looks at firms further back in the supply chain for a product.
E-business
replacement of physical business processes with electronic ones
Cognitive Psychometrics,
response time (RT), eyetracking, memory recall
lab experiments when combined with field experiments can permit
sharper and more convincing inference
Wal*Mart requires top 150 suppliers to put RFID tags on
shipping creates and pallets
Discount function does not decline more quickly in the
short-run than in the long-run
Random nth Price
simultaneously submit sealed bids, randomly drawn (nth) bid, n-1 highest bidders pay market price, n-1 bidders
BDM
simultaneously submit sealed bids, randomly drawn price, individuals pays market price if bid exceeds randomly drawn price, individually determined
Non-Hypothetical
situations in which an individual makes a consequential economic commitment ⚫ sometimes referred to as "revealed", "real", and "actual" ⚫ Example : Experimental auctions
Bullwhip Effect occurs when
slight demand variability is magnified as information moves back upstream
which of these characterize "bullwhip effect"
slight demand variability is magnified as information moves back upstream in the supply chain
These categorizations would be inconsequential if funds were fungible between them. However, due to the peanuts / threshold effect
small routine activities might not get booked (eating out for lunch, getting coffee).
a feature of the _____________ that affects people's choices without imposing coercion or any kind of material incentive
social environment
Which of these is a publicly funded study that incorporates a rigorous statistical design and whose aspects are applied over a period of time to one or more segments of a human population, with the aim of evaluating the aggregate economic and social effects of the experimental treatments
social experiment
The discount factor δ is the marginal rate of substitution between time periods
sometimes directly called the intertemporal marginal rate of substitution
Price variations
special discounts and other cost changes can upset regular buying patterns; buyers want to take advantage on discounts offered during a short time period, this can cause uneven production and distorted demand information
Automated Store Ordering
store orders are generated automatically based on actual scanning data, in-house inventory, and sales forecast
Artefactual Field Experiments Issue of self-selection
students might be self-selected so that they are a sample that excludes certain individuals with characteristics that are important determinants of underlying population behavior.
Regret avoidance
subjects shy away from trading to avoid an anticipated feeling of regret
Which of these is an implication of the practice of "scanner based payment" or "order to shelf systems"
the need for instantaneous sharing of information between the vendors and retailer
Reliable Operations
improving process reliability (reducing manufacturing down time) and improving delivery reliability
Is economics an experimental science?
"Experimental sciences, such as chemistry and some branches of psychology, have an advantage because it is possible to produce relevant evidence through controlled laboratory experiments. Other sciences, such as astronomy and economics, cannot do this" (Lipsey, 1979, p. 8) "Unfortunately, we can seldom test particular predictions in the social sciences by experiments explicitly designed to eliminate what are judged to be the most important disturbing influences. Generally, we must rely on evidence cast up by the 'experiments' that happen to occur." (Friedman, 1953, p. 10)
Contingent valuation: Elicitation formats Single Bounded
"If the cost to you was A, would you buy this item?" Only one question was asked of each respondent, but the valuation amount A was varied across respondents, using random assignment with a set number of alternative values for A.
Diminishing Sensitivity; saving
$10 on $1000 item ; $10 on $20 item
Diminishing sensitivity; Value function is concave over gains, convex over losses • Can be inferred from:
($500, 1) > ($1000, 1/2) (risk averse over moderate probability gains) (−$500, 1) < (−$1000, 1/2) (risk-seeking over moderate probability losses)
b uniformly discounts all future periods
(=1 for exponential discounters; <1 for quasi-hyperbolics)
(Net Profit)/(Total Assets) =
(Net Profit)/(Net Sales) x (Net Sales)/(Total Assets)
English Disadvantages
-difficult to implement with multiple goods -difficult to control market feedback
English advantages
-familiar to most people & easy to explain -open market with feedback
Mental Accounting Real world examples: Three groups for people purchasing season tickets for a campus theater group:
1 group paid full price (no discount), 1 group got a small (13%) discount, 1 group got a large (47%) discount. Those who paid full price attended more shows than the other groups, although eventually declined to the same rate
Money is often grouped into categories or labels:
1) Expenditures can be grouped into budgets (food, housing, entertainment) 2) Wealth can be divided into accounts (checking, retirement) 3) Income is divided into categories (regular, windfall)
Recall the properties of prospect theory's value function:
1) Gains and losses are evaluated relative to a reference point 2) Both gains and losses exhibit diminishing sensitivity - the difference between $10 and $20 is more noticeable than the difference between $1010 and $1020 3) Loss aversion: -v(-x) > v(x)
Walmart Suppliers who haven't met the monthly threshold will be fined
3% of the value of the products that didn't hit the target
Choosing between juice in 20 minutes or 2x juice in 25 minutes
30% of subjects choose first option
Choosing between, juice now or 2x juice in 5 minutes
60% of subjects choose first option
In-Store Valuation Advantages compared to lab setting:
Allows one to more closely target the population of interest Sample selection bias will likely be smaller than in lab experiments because involves less inconvenience for the subject Reduced cost (lower participation fees)
Randomized Card Sorting As each card is presented, the respondent is asked to sort them into one of 3 categories:
Amounts they are sure they would pay ⚫ Amounts they are sure they would not pay ⚫ Amounts they are unsure about
Quasi-hyperbolic discounting
D(t) = 1, bd, bd2 , bd3 , ... Ut = ut + bdut+1 + bd2ut+2 + bd3ut+3 + ... Ut = ut + b [dut+1 + d2ut+2 + d3ut+3 + ...]
Ina typical economic experiment which of these can estimate the treatment effect given our discussions last week
E(Y1 | P=1)- E(Y0 | P=1)
Just and Wansink (2009) gave elementary students lunch with either fries or apple slices as default side dish.
Each group was asked whether they wanted to switch to other option. Propensity to select fries was 95% when it was default and 96% when it was not
Why nudge? Ethical argument
Freedom preserving and not coercive; does not limit choice, autonomy, dignity and choice preserving (enhancing)
(ITT)
Intent to Treat
Lab experiments - can they predict field behavior?
Issue of external validity
Payment Card
Present subjects with a range of monetary amounts and ask them to identify the maximum amount they would be willing to pay
United States Department of Defense (DoD) mandate
RFID and EPC for higher value items.
which of these is an advantage of RFID technology over barcode technology
RFID can store more bytes of data
United States Food and Drug Administration (FDA) mandates
RFID for pharmaceutical supply chain
Hyperbolic function
Rapid rate of decline in the short run, slow rate of decline in long run
We will take great risks to avoid a loss.
Reframing the same option as a loss changes the choices.
Advantages of Experiments
Replicability, Control
Taste Is Originated from?
Social, Psychological, Culture Influences
How can you assess how well your supply chain is performing?
The SCOR model
A Thought on Generalizability Empirically:
Thus far, data suggest that representativeness of the environment appears more important than representativeness of the population for some key games. We can learn a lot from doing more sampling of environments and stimuli that people actually encounter. We, sometimes, generalize our results to both a population of situations and a population of people when we typically only speak to the issue of the latter.
Contingent valuation: Elicitation formats Double Bounded
To improve precision researchers then developed the doublebounded approach: If the respondent said "yes" to the first valuation question, the question was repeated with a higher value for A; if "no," it was repeated with a lower value for A.
So why did economists focus on Econs especially after WWII?
To make economics more mathematically rigorous, • Models of rational behavior became standard because they were easier to deal with, Belief that "markets will take care of things", Bottom line according to Thaler (2016): "there is not magic market potion that miraculously turns Humans into Econ; in fact, the opposite pattern is more likely to occur, namely that markets will exacerbate behavioral biases by catering to those preferences".
• Suppose there are two periods, and we care directly about utilities in each period:
U = u1 + δ u2
UPS became the first company to attain Standard certification from the Federal Aviation Administration, which permits
UPS to fly an unlimited number of drones with an unlimited number of remote operators in command.
Electronic data interchange (EDI)
a computer-to-computer exchange of business documents
To lower the potential for regret
a premium is required. This premium lowers WTP and raises WTA, compared with the absence of anticipating regret
Supply chain
activities that get raw materials and subassemblies into manufacturing operation
We tend not to feel "connected" with our future selves, and thus
adopt behaviors that are moderately pleasing to our present selves and harmful to our future selves
SCM is the integrated planning, coordination, and control of
all logistical business processes and activities in the supply chain (SC)
how many basic emotions do you think we have?
anger, fear, disgust, surprise, happiness, sadness
• Retirees allocate much smaller fraction of their wealth to
annuity products
Out of stocks are significantly higher than
anyone can or should tolerate
which of these is similar to conventional lab experiment but with nonstandard subject pool
artefactual field experiment
John Henry effects:
being aware of being in the control group influences behavior of the control group
Hawthorne effects:
being aware of being in the treatment group influences behavior of the treatment group
Experimenter Demand effects
being aware of being measured influences behavior strategically (e.g., please researcher); unnatural effects
All that is needed is for the behavioral responses of students to be the same as those of non-students
can be assumed or empirically tested
Brain activity determines choice
can measure it with various tools can cause changes in activity choice brain states are omitted variables that could raise R2 if measured
BDM advantages
can use grocery store setting -values can be elicited relatively quickly
Neoclassical model does not handle?
changes in consumer tastes and preferences
people will go to length to avoid
closing accounts in the red
which of these is the practice of eliminating the storage of products at the distribution center by transferring, reconsolidating, and distributing products within 24 hours to the store
cross ducking
Research suggests that members of any given culture perceive reality in terms of
culturally provided sets of ideas and premises
Free return policies
customers may intentionally overstate demands due to shortages and then cancel when the supply becomes adequate again
which of these can be considered as a nudge
default rules
Social Experiments examples
delivery of employment-related services to residents of public housing developments in the US (the Jobs-Plus project) - the provision of cash transfers to low-income families linked to school and health clinic attendance in poor communities in Mexico (PROGRESA).
epc
electronic product code
Use of Convenience & Nudge Statements; simply make things much more convenient
flu shots incidence increased significantly when pharmacies were allowed to give them
Bullwhip effect some of the causes
forecast errors, panic ordering reactions after unmet demand
In the 4 examples below, your chances of receiving $1 million improve by 5%. Is the news equally good in each case? Which two are more impressive? A) from 0 to 5% B) from 5% to 10% C) from 60% to 65% D) from 95% to 100%
from 95% to 100%
Outcomes better than reference point are _________ while those below the reference point are __________
gains, losses
Mental Accounting
how people think about money
which of these is related to the concept of present biased preferences
hyperbolic discounting
which type o discounting better represents this: "more discounting is between the present and the immediate future and there is not much discounting between any two future time periods
hyperbolic discounting
WTA
if individual owns property rights to the good
Nudges use freedom preserving choice architecture to
influence behavior
When goal is activated
information given to people becomes more salient
Exponential function does not show
instant gratification effect
Retailers are consolidating
international markets become more important
Key Performance Indicators for food SCs on organization level
inventory level, throughput time, responsiveness, delivery reliability, total organization's cost
Behavioral economics does, and should draw on psychology but
is focused on different questions to psychology, retains the methodology and mathematical rigor familiar in economics and game theory
Another explanation for the Easterlin paradox is adaptation
people become accustomed over time to changes (e.g., lottery winners and quadriplegic individuals)
Emotions are innate
present even in blind-at-birth
Economic factors
price, income
Key Performance Indicators for food SCs on supply chain level
product availability on shelf, product quality, responsiveness, delivery reliability, total SC cost
Efficient Replenishment (ER)
objective is to ensure an optimized product flow through the SC
Walmart Distribution center
one center serves 165 stores, about 28 acres under a single roof, about 200,000 cases of goods, 310 trucks daily
Conventional Lab Experiment
one that employs a standard subject pool of students, an abstract framing and an imposed set of rules
Economic Theory
provides a framework for describing and analyzing economic situations makes behavioral assumptions to derive predictions provides explanations of economic and social phenomena Experiments can be and are used to test theory Provides framework to derive benchmark predictions (e.g., expected utility; prospect theory Formulate new models consistent with observed behavioral regularities. Experiments provide facts. Explanations come from theory! So economic theory provides an important input for the design of economic experiments Provides a guide for choosing parameters, competing explanations theories may be valuable for their insights and illumination even if they explain or predict nothing about actual behavior (self interested model vs altruistic, envious, reciprocal models
Enabling Technologies• Activity Based Costing
provides insight in the costs activities within the SC • facilitates the calculation of financial consequences of changes per individual activity and chain partner
Attachment
psychology of ownership
Which of these is a reason for exchange asymmetry
regret avoidance
Important Supply Chain Uncertainties/Issues
• Supply chain disruptions and risk • Leadership within the supply chain • Managing timely delivery of goods and services • Managing product innovation by drawing on the capabilities of supply chain • Implementing appropriate technology to enable seamless exchange of information within the supply chain
Key Performance Indicators (KPIs) for Food SCs
• Timeliness of delivery •Availability and condition of the product
Examples of Great Business Processes
• Toyota Motors • Southwest Airlines •Dell Computers •A Common Theme
STATED PREFERENCES (Hypothetical) direct:
Contingent Valuation
Beliefs drive evaluation and experience
Cork vs screw in wine, Simply Orange vs Tropicana orange juice
Properties of discount functions:
D(0) = 1 Something happening right now gets full weight D(t -> ∞) = 0 Asymptotes to 0 D(t) is monotonically decreasing - a longer delay implies greater impatience
People overweight small probabilities
overweight small chance of repair being necessary
Attachment can be due to:
ownership, expectations, history, physical proximity, others
Sydnor (2005) finds that
people prefer higher premiums and lower deductibles
If you make something easier
people tend to do it
(6) Evaluate policy proposals
- e.g., evaluate different mechanisms for a policy objective; - e.g., see Loureiro, Gracia, and Nayga (ERAE 2006) on mandatory nutritional labeling in Europe
Economics is an experiment science
- experimental economics is now a well-established field of research and even boasts a Nobel Prize winner (Vernon Smith)
BDM disadvantages
-no active market - no market feedback
RFID vs Bar Codes
1) Labor savings - RFID tags do not require manual scanning. 2) Bar codes have to be visible on the outside of the package. 3) Readability of bar codes can be affected by dirt, moisture, etc 4) RFID tags can store more bytes of data than bar codes
If you were deciding today, would you choose fruit or chocolate for today?
70% choose chocolate
If you were deciding today, would you choose fruit or chocolate for next week?
74% choose fruit
Walmart ordered their suppliers that shipments must be delivered on the scheduled arrival date - not early or late - at a minimum of
85% of the time with an ultimate target of 95% in near future
Experimental Auction
A method that provides incentives for individuals to truthfully reveal their values and imposes a cost for non-truthful (or inaccurate) value revelation A method where individuals bid against others in an active market where, in a WTP auction, the high bidder(s) win the good and actually pay the market price Separate what people say from what they pay Market price paid is independent of what he/she bids
RFID Solution
Able to scan and read from different angles and through certain material, able to function much better in such conditions, write enable, unique coding is possible and item can be tracked at individual level, fast and less labor intensive, difficult to copy and tamper, technology advancement is possible, new chip, better packaging
Certainty Follow-up Question
Among the most popular ex post corrections in stated preference valuations. ⚫ Provides a second question immediately following the valuation query, asking how confident the respondent is of their previous response. ⚫ Early studies of its effectiveness were done by Champ, et al. (1997) and Blumenschein, et al. (1998) and more recent, elaborate tests were conducted by Blomquist, et al. (2009) and Ready, et al. (2010).
Membership fee being viewed by customers as an investment:
• Costco •Amazon's prime membership for free shipping
Becoming ______________ to an item leads to reluctance to give up that item
Attached
So why bidding true value is weakly dominant strategy?
Because bidding true value is at least as good as other strategies (underbidding or overbidding) and sometimes better Strictly dominant strategy is one that always provides the higher payoff over all other strategies
Non-Economic Factors: External Influences
Beliefs, Culture, Values, gender roles changing, Demographics, social Status, Reference Groups, friends, relatives, Household
Neuroeconomics three variables to measure and change
Biological and brain activity Emotions Attention and information processing
Brain activity related to present biased preferences/hyperbolic discounting
Brain activity when making decisions involving distant future was strongest in the prefrontal cortex (the area of the brain most associated with more complex decision making) Brain activity when making decisions involving the opportunity to do it immediately was strongest in the amygdala (the area of the brain associated with emotional responses) Associated with Kahneman's System 1 (automatic, without much deliberate thought) vs System 2 (preserved for more complex decisions) theory
Internal Validity
Can we estimate treatment effect for our sample Fails when there are differences between treated and control that affect the outcome and we cannot control
External Validity
Can we extrapolate our estimates to other populations Fails when the treatment effect is different outside of the evaluation environment
Government and Firms Provide Much Product Information Intended for?
Change Consumer Behavior
Consumer Attempts to Maximize His/her Utility Subject to Budget Constraint
Choice Is About How to Spend Money • Given Taste and Preference • Given Market Prices
• Classical functional form: exponential functions
D(t) = d t D(t) = 1, d, d2 , d3 , ... Ut = ut + d ut+1 + d2 ut+2 + d3 ut+3 + ...
Creation and Maintenance of Subject Pool examples
Contacts between subjects outside the laboratory Experimenter being present in sessions that involve subjects who are students in his or her courses Deceiving participants Repeated use of same subjects due to poor record keepin
Subjective component is utility (preference)
Consumer Derives Utility from Goods and Services Purchased
Neoclassical Model of Consumer Behavior Does Not?
Deal With the Formation of Taste and Preference
Simple Game Theoretic Proof Imagine you are loser. Is there a profitable deviation from bidding true value?
Decrease bid? Still lose and receive nothing Increase bid? Still lose and receive nothing Win.... But pay more than you value the good
Experimental Design Issues
Demand reduction and wealth effects
Brain activity with risk loving behavior
Dorsomedial activation
Gains should be segregated.
Due to the concavity of gains, u(x) + u(y) > u(x+y) That is, someone who wins $100 prize and also wins a $50 prize is happier than someone who wins a $150
Payment Card advantages:
Ease of use ⚫ Avoids the statistical inefficiency of DC approach while involving lower cognitive loads than the OE method
Mental Accounting: Sunk Costs
Economists advice people to ignore sunk costs but it is hard for most people to do so
Clark (2003)
Examined drop in happiness resulting from unemployment - Happiness drop is smaller if unemployment is higher in one's area
Easterlin Paradox
For a cross-section of any given country, the correlation between income and happiness is very weak (above a certain income threshold) Likewise, for a given country over time, there is virtually no correlation between income and happiness. Countries with wildly different (per capita) GDPs report similar happiness levels
d exponentially discounts all future periods
For continuous time: see Barro (2001), Luttmer and Marriotti (2003), and Harris and Laibson (2009) In other words, the discount function D(t) = 1 if t = 0 ; βδ t if t > 0 The parameter β captures present-bias. If β = 1, the above discount function is simply exponential discounting.
Mental accounting explanation:
For the normal transaction, purchasing the tickets "opens a basketball game account" with a negative balance of $100. When the consumer attends the game, he updates and closes the account. However, if the consumer does not attend the game, he would have to close it in the red, and loss aversion would set in. The cost of doing this might outweigh the cost of driving in the blizzard.
Mental Accounting Real world examples: Health club
Health club memberships that come every 6 months - attendance is highest in the month of the bill, declines over the next 5 months, and then jumps up again
Product Valuation ⚫ Food industry and marketers seek ways of better forecasting new product success why?
High failure rate among new products ⚫ Failure rate of new food products = 70-80%
Each Individual Consumer has His/Her Own Utility and Preference and thus?
His/Her Own Demand Function for Goods and Services
Why 2nd Price Auction is Incentive Compatible?
If bidder submits a bid greater than his value, he runs the risk that the 2nd highest bid will exceed his value, which could cause him to lose money If he submits a bid less than his value, he runs the risk that someone could outbid him, causing him to miss out on a profitable opportunity. By separating what a person pays from what they say, the second price auction induces sincere bidding in theory.
WTP-WTA disparity
In theory WTP and WTA should coincide. In practice , studies measured great divergence between these measures.
In a demand analysis the responses are measured by?
Income and Price Elasticities
Evolution of SCM 1980s & 1990s
Intense global competition led manufacturers to adopt Supply Chain Management along with Just-In-Time (JIT), Total Quality Management (TQM), and Business Process Reengineering (BPR) practices
What behavioral economics is not?
It is not about reinventing psychology,
Possible reference points?
Lagged consumption, Goals and Aspirations, Social Comparisons, Recent Expectations
________________ approaches or _____________ that steer people in particular directions, but that also allow them to go their own way
Liberty preserving approaches, Stimuli
electronic product code (epc)
Naming scheme for physical objects
2 main types of internet based B2B
Net marketplaces, Private industrial networks
Common threats to external validity
Non-representative sample, Non-representative program, Hawthorne effects
From the 80's onwards behavioral economics has been the fastest growing area of economics.
Partly due to dissatisfaction with the 'standard model'. Partly due to the breadth of talent that has worked in the area
WTP-WTA disparity; Income & Substitutes
Payment to obtain a good is constrained by income, but compensation demanded to give up the good is not. Then WTA>WTP.
Reference Dependence
People derive utility from gains and losses measured relative to some reference point, The carriers of value are gains and losses, not final wealth levels
Stated preferences methods Disadvantage
People know they are in a hypothetical setting and tend to promise to pay significantly more than they actually would do
Why are gifts more popular than direct cash transfers?
People might not be able to use the cash themselves for the good with the highest MU / P due to budgeting / self control issues. This certainly helps explain why most gifts are hedonic rather than utilitarian.
Artefactual Field Experiments So are students really different?
Problem with students maybe the lack of variability in their socio-demographic characteristics not necessarily the unrepresentativeness of their behavioral responses conditional on their socio-demographic characteristics! So the sample does not have to look like the population in order for the statistical model to be an adequate one for predicting the population response (e.g., weighting of survey responses)
In chemistry, for example, they do experiments by getting rid of all things that need to be controlled (getting rid of all the dirt that contaminate the experiment) So what is the key point that made experiments possible in economics?
Randomization! We don't get rid of the dirt, we are just balancing the dirt across control and treated groups!
Randomized Card Sorting (RCS)
Rather than presenting all amounts together on one sheet, write individual amounts on separate cards ⚫ Shuffle the cards in the presence of respondents and cards are drawn one at a time in a random order
Why are men paid more than women in labor markets?
Recent work in experimental economics suggests that men tend to be more competitively inclined than women
(2) explore the causes of a theory's failure
Reexamine design to be sure that failure is the fault of the theory
Generalizability Issue
Representativeness of sample vs representativeness of situation
Biggest obstacle for SCM
Resistance to change
Social desirability bias
Respondents provide responses that they think will please the interviewer or be consistent with societal norms ⚫ People have propensity to misrepresent their "true preferences" out of concern for how they are viewed by others ⚫ People often behave differently if they are watched by others
Key Performance Indicators for food SCs on process level
Responsiveness, throughput time, process yield, process cost
Real-time Data And Its Value In Retail
Retailers and Suppliers can make Real-time Operational decisions
Cheap Talk Example
Studies show that people tend to act differently when they face hypothetical decisions. In other words, they say one thing and do something different. For example, some people would state a price they would pay for an item, but when this item becomes available in a grocery store, they will not pay the price they said they would pay. There can be several reasons for this behavior. It might be that it is too difficult to measure the impact of a purchase in the household budget. Another possibility is that it might be difficult to visualize getting the product from a grocery store shelf and paying for it. We want you to behave in the same way that you would if you really had to pay for the product.
Hawthorne effects
Subjects feel they are observed or in a study
Experimental Auction Disadvantages
Subjects must be recruited and paid participatory fees to attend lab sessions Bids might be truncated or censored by outside alternatives (substitutes) not available in the experiment Large frequency of zero bidding, maybe because of disinterest Use with caution if one needs valuation estimates that can be generalized to a national sample or make important policy implications
E-Distributors
Suppliers, E-distributor online catalog, buyers
Adding Business Value Chains together creates a
Supply Chain
The SCOR model
Supply Chain Operations Reference Model - developed by the Supply Chain Council can be used to asses performance
Radio Frequency Tags: Keeping the Shelves Stocked
Supply chains work smoothly when sales are steady, but often break down when confronted by a sudden surge in demand. Radio frequency ID (or RFID) tags can change that by providing real-time information about what's happening on store shelves. Here's how the system works for Proctor & Gamble's Pampers.
So why the difference when sunk costs should have no effect on decision making?
Suppose you paid $100 in advance for tickets to a basketball game. On the day of the game, there is a terrible blizzard? Do you drive to the game? Suppose you'd gotten the tickets to the game for free. On the day of the game, there is a terrible blizzard? Do you drive to the game?
SCM Redesign Principles
Synchronize all logistical processes to the consumer demand process
(1) test a theory or discriminate between theories
Test a priori expectations about behavior Test predictive power of theory
based on the group presentations last week, which one of these is true?
The indonesia tuna traceability system applies to all of indonesia's exports of fish products
Students in every other seat were given university mugs. Then reported how much they would be willing to sell the mug for. What happened?
The students with mugs priced them higher
Stochastic Payment Card ⚫ Uncertainty exists in markets
The value of a commodity to an individual is influenced by prices of both substitute and complementary goods ⚫ Uncertainty may exist with respect to the commodity in question ⚫ Uncertainty about how to use the good in question, etc
Key Element of SCM:
Uncertainty Reduction
Calibration
Use of statistical functions to calibrate data, Uncertainty adjustment, Cheap Talk, Consequentiality, inferred valuation, Taking Oath, Priming, Virtual reality
Concerns about and Limitations of Experiments
Use of students who comprise most subject pools, Markets are complicated while lab environments are often relatively simple,
Diminishing Sensitivity
Value function is concave over gains, convex over losses
Brain activity with risk and ambiguity avoiding behavior.
Ventromedial activation
WTP and WTA According to standard economic theory
WTP = WTA
North Rhine animal welfare
Westphalia State (Germany) - pigs should get 1 sq meter of stall space, soft rubber mat for napping, chewy toys to play, 8 hrs of daylight, and farmer must spend at least 20 seconds looking at the pig each day
Traditional Selection Bias - Example
When a government program like Head Start reports that the outcomes of participants in the program are better than those not in the program, they discount the fact that parents who want more education for their child may also be more likely to sign up for Head Start, leading to an upward bias on the true effect of the program
Salience
When considering to trade, the value of endowed good is formed against the backdrop of not having them, leading individuals to focus on the endowed good's most valuable attributes
Honesty Priming Tasks
When people are incidentally exposed to some cues or words in an unrelated task, these stimuli can activate different goals, thereby influencing their subsequent decisions in a non-conscious manner
EMOTIONS
are triggered by events of some significance or relevance to an organism, that they encompass a coordinated set of changes in brain and body, and that they appear adaptive in the sense that they are directed towards coping with whatever challenge was posed by the triggering event. Emotions also have an onset, a dynamic timecourse, and an offset or resolution"
Inferred valuation =
ask people to indicate how much they think another person values the good
Enabling Technologies• Electronic Funds Transfer
between partners
The ________________ format: Ask respondents to choose between alternatives "Product 1, involves paying A1 and obtaining characteristics q1; product 2, involves paying A2 and obtaining characteristics q2; and product 3, involves paying A3 and obtaining characteristics q3. Which of these options do you prefer?" The major advantage of this approach: it permits the researcher to estimate how changes in the individual attributes across the choice alternatives alter the respondents' choices and, hence, to value changes in individual attributes.
choice experiment
Scientists can measure many bio-cognitive variables...
cognitive, physiological, neural
Neuroeconomics
combines neuroscience, economics, and psychology to study how we make choices. It looks at the role of the brain when we evaluate decisions, categorize risks and rewards, and interact with each other
Order batching
companies may not immediately place an order with their supplier; often accumulating the demand first. Companies may order weekly or even monthly. This creates variability in the demand as there may for instance be a surge in demand at some stage followed by no demand after
Experimental methods
complement rather than substitute other empirical techniques
Bar code and point-of-sale
data creates an instantaneous computer record of a sale
What if dealers have different expectations from ordinary consumers, in that
dealers expect to exchange and thus would not consider giving up an item as a loss
Which of these can negatively affect outcomes of economic experiments
deceiving participants, repeated use of same subjects due to poor record keeping, contacts between subjects outside of the laboratory
Tendency to select a default option increases if
decision maker has had to make many choices in the near past
Transformed probabilities should not be thought of as incorrect beliefs, but as
decision weights (that the brain is applying to events that occur with certain probabilities)
Stress increases _________________ to protect gain, avoid loss
default choice
Create information transparency
establish an information exchange infrastructure (e.g., Retail Link system of WalMart) • increase information timeliness by implementing realtime information systems
Stochastic Payment Card ⚫ Used to
estimate valuation distributions ⚫ Enumerator presents the respondent with a PC and asks her the likelihood that she would agree to pay each price in the PC ⚫ See Wang and Whittington (Ecological Econ 2005)
Research conducted by Arthur D. Little amongst 245 European companies revealed that many companies had problems implementing SCM
even though 48% had appointed a special 'supply chain manager'
Demand reduction effects
if subject purchases a good in one treatment, their demand for the next good will likely fall in a subsequent treatment of an experiment due to a movement along the demand curve, not necessarily due to treatment effect Valuation for one good may be altered by presenting the option of other available substitutes
Criticism often deflected by
if you think that the experiment will generate different results with "real" people, then go ahead and run the experiment with real people
Integrated Suppliers
implementing continuous replenishment, reliable operations, and synchronized production upstream the SC
SC partnerships with key suppliers/customers can reduce uncertainty and minimize risk
improved performance
Endowment Approach Advantages:
it isolates the effect of interest and mitigates other outside-market influences also forces subjects to participate and pay attention to the auction and bids they make Hoffman et al (Mktg Science 1993) contend that the most useful and reliable estimates from experimental auctions are differences in WTP between 2 goods and the endowment effect directly elicits this difference Endowment approach can also be helpful in attracting participants in a field setting such as a grocery store (rather than paying subjects to attend a lab setting which has been found by Rutstrom to influence valuations); can then reduce participation fees.
By reducing the PC format to a series of "take it or leave it" choices;
it simplifies the valuation task futher and increases the respondent's engagement with the exercise
Mental accounting exploitations: Charity requests or public good donations
only 27 cents a day, rather than the noticeable $100
Lab, AFEs, and FFEs provide t for
only p = 1 group: E(y | 1 & 1) E(y | 0 & 1) 1 0 t D p D p
While some people like trading
others are biased against trading and will avoid trade unless the gains from trade are sufficient to overcome their uneasiness.
Risk averse sellers →
overestimate its value Leads to a disparity
Framed Field Experiments
same as artefactual field experiment but with field context in either the commodity, task, or information set that the subjects can use
Artefactual Field Experiments
same as conventional lab experiment but with a nonstandard subject pool
Natural Field Experiments
same as framed field experiment but where the environment is one where subjects naturally undertake these tasks and where the subjects do not know that they are in an experiment.
English
sequentially offer ascending bids, last offered bid, highest bidder pays market price, 1 winner
Different cultural experiences can
shape the neural structure of our brains
2nd Price
simultaneously submit sealed bids, 2nd highest bid, highest bidder pays market price, 1 winner
Collective Auction
simultaneously submit sealed bids, mean bid, each individual pays market price (subject to unanimity rule) if sum of bids exceeds sum of costs, none or all
nth Price
simultaneously submit sealed bids, nth highest bid, n-1 highest bidders pay market price, n-1 number of winners
People are averse to losing $60
so they pay to avoid it
Role of emotions and vividness in decision making (e.g., psychology of worry) Conclusion:
the decision weights that people assign to outcomes are not identical to the probabilities of the outcomes
Strategic complementarity
the degree of compatibility of the partners' assets, competencies, goals, and strategies
An NFE provides t for
the entire population: = y1 - y0
Tsunamis are very rare even in Japan, but
the image is so vivid and compelling that tourists are bound to overestimate their probability
Continuous Replenishment
the inventory of the retailer is managed by more frequent and smaller deliveries from the producer, based on actual sales and forecasted demand
Your Willingness to Pay (WTP) for a good is just that
the maximum amount of money you would give up in order to receive the good.
We have twice as much inventory in
the system as we need
δ =1 implies that 1 unit of happiness tomorrow is worth 1 unit of happiness today, hence
the two are perfect substitutes
Language shapes
the way we think
Gain Attraction
there is a good feeling experienced in receiving the endowed good that is associated with the increase in utility that the endowment brings
Thaler interview by Dubner (2019) Nudge
"A nude is some small - possible small - feature of the environment that influences our choices but still allows us to do anything we want"
Thaler and Sunstein (2008) Nudge
"A nudge....is any aspect of the choice architecture that alters people's behavior in a predictable way without forbidding any options or significantly changing their economic incentives"
Full Bidding Approach: Multiple Good Valuation Subjects evaluate multiple alternatives
Advantage Researcher can get more data for little additional cost Disadvantage Valuations affected by demand reduction or wealth effects if experiment not properly constructed
Endowment vs full bidding approach
Can endow subjects with a good and elicit WTP to upgrade to a "higher quality" good Or allow subjects to bid simultaneously between two or more goods (full bidding)
What is ITT
ITT analysis includes every subject who is randomized according to randomized treatment assignment It ignores noncompliance, protocol deviations, withdrawal, and anything that happens after randomization ITT analysis is usually described as "once randomized, always analyzed" "ITT analysis avoids overoptimistic estimates of the efficacy of an intervention resulting from the removal of non-compliers by accepting that noncompliance and protocol deviations are likely to occur in actual practice" - Gupta, 2011
Replicability
Refers to the capacity of other researchers to reproduce the experiment and thereby verify the findings independently To a degree, lack of replicability is a problem of any inquiry that is nonexperimental
(3) establish empirical regularities as a basis for new theory
Well formulated theories in most sciences tend to be preceded by much observation Experiments test predictions by theory and can refine/revise theories
WTP and WTA
"WTP is how much you would buy the good for; WTA is how much you would sell the good for."
Ferber and Hirsh (1982) define Social Experiments as
"a publicly funded study that incorporates a rigorous statistical design and whose experimental aspects are applied over a period of time to one or more segments of a human population, with the aim of evaluating the aggregate economic and social effects of the experimental treatments"
Self-control in the brain
"our economic theory of choice is roughly consistent with the scientific literature on brain function. . . . It is well known that selfcontrol phenomena center on the interaction between prefrontal cortex and the limbic system."
Graphically a Utility Can Be Represented by?
A Series of Indifference Curves
Incentive Compatible Methods
A mechanism is incentive compatible if every participant can achieve the best outcome to him/herself just by acting according to his/her true preferences Incentive compatibility essentially refers to offering the right amount of incentive to induce truth revelation by the agents. Bidding true value yields a payoff at least as great as the payoff from all other strategies no matter what bidding strategies other rivals pursue. Strategic considerations cannot help any agent achieve better outcomes than the truth; hence, such mechanisms are also called strategy-proof or truthful (i.e., since the need for strategic thinking is eliminated, dominant-strategy IC is also referred to as strategyproofness)
VENDOR MANAGED INVENTORY
According to an investigation of IBM and PriceWaterhouseCoopers, about 70% of Dutch production and retail companies are involved in Vendor Managed Inventory (VMI) programs. For example, United Biscuits is responsible for the inventory management of biscuits in Albert Heijn's (one of the largest Dutch retailers) warehouses. In VMI systems, the upstream members of the SC become responsible for inventory levels located downstream the SC. Through EDI, the manufacturers gain access to demand and inventory information for each downstream SC site and make necessary modifications and forecasts for them. Estimates indicate that implementation of these types of applications have resulted in inventory reductions of up to 25%
Framed Field Experiments
Approach that could be taken is to undertake experiments in naturally occurring settings in which the factors that are at the heart of the theory are identifiable and arise endogenously and then to impose the remaining controls needed to implement a clean experiment So rather than impose all controls exogenously on a convenience sample of college students, find a population in the field in which one of the factors of interest arises naturally and then add the necessary controls
Use of students who comprise most subject pools
Argument about choice of subjects rather than about the usefulness of experiments If economic agents in relevant markets think differently from students, then the selection of subjects should reflect this
Value theory WTP
Consumer maximizes his/her utility function subject to a budget constraint and the level of quality of the good q. Assume quality is fixed. The consumer chooses the level of the goods X that maximize utility subject to the constraint. Demand curve will be: The indirect utility function will be: Consider an improvement in quality level from q0 to q1 . The value of this improvement to the consumer is the magnitude of WTP such that the equality holds: WTP is the amount of money that when subtracted from consumer's income makes them indifferent to improving the
Retail-to-Warehouse Conversions Are Real
Empty stores and shopping centers are increasingly being converted into warehouse and distribution centers Sam's Club's conversions of 12 of its stores to distribution centers.
Traditional Selection Bias To avoid this bias
Enter randomization, randomization and identification of the treatment effect typically occurs over the p = 1 group only
Assume that b = ½ and d = 1. • Suppose exercise (current effort 6) generates delayed benefits (health improvement 8). • Will you exercise?
Exercise Today: -6 + ½ [8] = -2 • Exercise Tomorrow: 0 + ½ [-6 + 8] = +1 • Agent would like to relax today and exercise tomorrow. • Agent won't follow through without commitment
Enterprise Resource Planning (ERP) Systems
Facilitate communication throughout the supply chain and over the Internet. • The ERP system embodies much more than just the supply chain, it also includes all the electronic information concerning the various parts of the firm.
Most common threats to internal validity
Failure of randomization Non compliance with experimental protocol Attrition
Fatal Errors
Failure to use complete and unbiased instructions Failure to include a baseline control treatment that calibrates results Failure to restrict focus on a few treatments of interest that do not change too many things at once Failure to choose the degree of institutional complexity appropriate to the problem being investigated
note that behavioral economics is not new
Historically, economists, including Adam Smith, Keynes and Marshall talked a lot about behavioral tendencies
Exponential Discounters
How he feels about this year versus next year is the same as how he feels about 5 years from now versus 6 years from now. • How he feels about tomorrow versus the day after tomorrow is the same as between 112 days from now and 113 days from now. • Constant per-period discounting implies time consistency - the property whereby the optimal decision at one point in time remains the optimal decision with the passage of time
Value theory WTA
How much compensation would a consumer accept for a reduction in the quality of a good they own from q1 to q0 ? The consumer chooses the level of the goods X that maximize utility subject to the constraint. Demand curve will be: The indirect utility function will be: The value of quality degradation to consumer is given by the magnitude of WTA such that the equality holds: WTA is the amount of money that when added from consumer's income makes them indifferent to having q0 or q1 .
WTP-WTA disparity
Income & substitutes, transaction costs, implied value, profit motive, endowment effect, loss aversion, legitimacy, ambiguity and risk aversion, responsibility,
Simple Game Theoretic Proof Imagine you are winner. Is there profitable deviation from bidding true value?
Increase bid? Still win and pay 2nd price Decrease bid? Still win and pay 2nd price Lose and receive nothing
Evolution of SCM 2000s and Beyond
Industrial buyers rely more on third-party service providers (3PLs) to improve purchasing and supply management Wholesalers/retailers focus on transportation and logistics more & refer to these as quick response, service response logistics, and integrated logistics
Threats to Validity of Randomized Experiments
Internal Validity, External Validity
Evolution of SCM 1960s-1970s
Introduction of new computer technology lead to development of initiatives to coordinate inventory management and improve internal communication
Stated Preference Methods
Involve people hypothetically rating, ranking, or choosing between competing products or alternatives ⚫ does not provide incentives for respondents to invest sufficient cognitive effort when thinking about their valuation decisions ⚫ lack of real economic commitment - people overstate the amount they are willing to pay ⚫ Open to strategic manipulation ⚫ Consumer valuation of novel products from hypothetical studies have been found to be as much as 3 times greater than valuation from non-hypothetical studies ⚫ could then lead to inaccurate pricing and product adoption decisions and sales forecasts.
Control
Is the capacity to manipulate lab conditions so that observed behavior can be used to evaluate alternative theories. methods and policies
An example of SC uncertainties
Krajewski et al. Report the findings of a project with the objective to determine which factors in a production environment have the biggest impact on performance. They found that the most important were: variability in weekly demand, vendor delivery reliability, vendor average lead times and the lead time variability, capacity slack, yield losses, equipment failures and the duration of the downtime, reporting errors in inventory transaction and the size of the errors, and processing times and set-up times per unit. Simulation results suggested that the selection of a production/inventory system could be of less importance than the improvement of the manufacturing environment itself.
Not Having a Control Group
Leads to Traditional Selection Bias
Bar Code Deficiency
Line of sight technology, unable to withstand harsh conditions (dust, corrosive), must be cleaned and not deformed, no data addition option, no unique identification, slow and labor intensive, easy to tamper and copy, little potential for further development
B2B Trends
More use of industry owned consortia enabling buyers to purchase direct inputs from a limited set of invited participants, e.g. Covisint.com (automotive), Avendra.com (hospitality), and ForestExpress.com (paper and forest) • Greater use of these "net-marketplaces" to bring more suppliers into contact with more suppliers to reduce price and lower transaction costs • i2, Ariba, Commerce One, and Greemarket.com -set up Internet exchanges and auction sites for manufacturers dealing with suppliers. • Greater use of E-distributors providing products via ecatalog from thousands of suppliers at one market place
Why are gifts more popular than direct cash transfers? example
NFL Pro Bowl. The NFL had problems getting players to show up at the all-star game. Monetary incentives are largely ineffective for players with 7-figure salaries. Solution: Moving the game to Hawaii, including 2 first-class tickets and accommodations.
Scientists can measure many bio-cognitive variables....Neural examples
Noninvasive: natural lesions (human), EEG, fMRI Invasive: intracranial recording
Treatment Effects in Experiments Common Mistake:
Not Having a Control Group
Why Nudge? Regulator's argument:
Nudges work, also when fully transparent are nothing new, but inevitable and omnipresent often, there is no neutral way to proceed
Query theory
Owners may first look for reasons not to sell while buyers may look for reasons not to spend money on an item
OUT-OF-STOCK CHARACTERISTICS SHOW THAT
PRODUCT IS NOT ON THE SHELVES DURING PEAK SHOPPING HOURS
Motivation
Providing payments to subjects tends to reduce performance variability If possible, average rewards should be set high enough to offset the opportunity cost of time for all participants Standard practice to pay participants an appearance fee in addition to their earnings in the course of the experiment - facilitates recruiting, establishes credibility, and perhaps provides incentive for participants to pay attention to instructions But can also potentially introduce bias into resulting bids (Rutstrom 1998; Nayga et al. 2009)
SCM Redesign Principles WAL-MART AND PROCTOR & GAMBLE
Several well-known firms involved in SC type relationships (e.g., Proctor & Gamble (P&G) and Wal-Mart, the US's fastest growing retailer) owe much of their success to the notion of information and the systems utilized to share this information with one another. Through state-of-the-art information systems, Wal-Mart shares point-ofsale information from its many retail outlets directly (via satellite) with P&G and other major suppliers. The product suppliers themselves become responsible for the sales and marketing of their products in the Wal-Mart stores through easy access to information on consumer buying patterns and transactions. P&G expanded these working methods with a new distribution system that allowed customers to buy and receive all P&G products together on the same truck - regardless of which business sector manufactured the brand. This development, together with the introduction of new pricing structures, pallet standardization, electronic invoicing and new procedures for handling damaged products resulted in huge savings. Because of the speed of this system, Wal-Mart pays P&G after the merchandise passes over the scanners as the consumer goes through the checkout lane.
Use of statistical functions to calibrate data E.g.,
Shogren (1993) proposed CVM-X method which has 5 steps: a) Elicitation of hypothetical values for the good in question via a survey b) Elicitation of real values for the good from a subset of survey respondents in a lab setting via auction c) Estimation of a calibration function relating the hypothetical of the entire sample to the real values of the sample subset d) Use the estimated calibration function to correct the values of the survey respondents that did not participate in the auction.
Lab in the Field Experiment
Similar to artefactual experiments but the lab experiment is conducted on the field with a representative sample of the target population
Scientists can measure many bio-cognitive variables....physiological examples
Skin conductance, pupil dilation, facial emg, emotion "facereader", pharmacological (AVP, OT etc.), gene SNPs
WTP-WTA disparity 6. Legitimacy:
Some exchanges involve ethical dimensions. e.g. valuations of human health and safety. Strong social norm against giving up safety in return for money. Even under conditions in which one would not be willing to pay much to purchase additional safety Selling one's safety, the safety of another species, or the safety of future generations is generally unacceptable.
Behavioral economics naturally emerged with game theory in the 50's and 60's.
The likes of Vernon Smith, Kahneman and Selten showed it's power
Losses should be integrated.
The opposite holds for losses, due to convexity: u(-x) + u(-y) < u(-x-y) Someone who has to pay $100 fine and a $50 fine is worse off than someone who has to pay a $150 fine
Time Inconsistency example
Which would you prefer? A: $2000 right now B: $2400 in a year from now Which would you prefer? C: $2000 in 10 years D: $2400 in 11 years
So should governments invest more in nudging? (Laibson)
Yes - despite small effect sizes, nudges are highly cost effective because the implementation costs are very small. See Nielsen et al. (2014) and Benartzi et al. (2017) But governments should also invest more in other types of paternalism such as bans, price incentives, mandatory savings etc
Stated preferences methods Advantage?
You can create a hypothetical market
• Time-inconsistent (Laibsonian) preference
always favors consuming today
Self-control problem
always prefer to start saving tomorrow rather than today
Hyperbolic discounting; • Between any two future periods
an agent has time consistent preferences
Mere measurement effects:
being aware of being measured influences behavior unstrategically (e.g., study increases attention which then changes behavior); natural effects
He suffers from extreme loss aversion
which makes him turn down very favorable opportunities
Labor costs are
increasing
Another aspect of mental accounting is
when to open and when to close an account.
Attachment Effect:
If she had been expecting to get a product with a high likelihood, not getting it would feel like a loss, so she's willing to pay more for it.
Stated Preferences
"Customers don't know what they feel, don't say what they know, and don't do what they say. Market research is three steps removed from real behavor" (David Ogilvy) ⚫ Let me add the importance of "at the moment" which is really what matters! ⚫ Stated preference downplays salient goals and emotions (what you think and feel at the moment)
Why do Economists conduct experiments?
(1) test a theory or discriminate between theories (2) explore the causes of a theory's failure (3) establish empirical regularities as a basis for new theory (4) Compare environments (5) Compare institutions (6) Evaluate policy proposals (7) Lab as a testing ground for new institutional designs/ mechanisms/ procedures
Time Preferences
- how one values the present vs the future - can significantly influence behavior (e.g., health behavior
Hyperbolic discounting (summary)
- relative to current period, all future periods are worth much less - there is little discounting between future periods - most discounting is between the present and the future - so most people have some taste for immediate gratification but almost nobody has that taste for an early future gratification - people are time-inconsistent; they believed they should do one thing in period t and when the time comes, they end up doing something else
Hyperbolic Discounting
- taste for immediate gratification (SR impatience)
Exponential discounting
- utility in a period is always worth d times utility in the previous period (where d is less than or equal to 1) - if today I believe that I should diet tomorrow, then tomorrow I will diet - implies that people form lifetime consumption plans and execute them accordingly - people are time consistent; what they believe they should do in period t is actually what they ended up doing - people should have no regrets about being obese, smokers, etc - in reality, people have strong tendency to over-value immediate gratification - relative to our own long term preferences ( we are impatient over short run decisions)
Random Nth price disadvantages
-Can be difficult to explain to participants -Determining market price can be time intensive if session sizes are large
Sometime within the next ten years, the RFID network will become the preferred global product identification capability for management of
Assets • Production and assembly • Supply chain track and trace • Inventories • Consumer product services and content • Retail theft and product counterfeiting • Customs clearance
WTP-WTA disparity 3. Implied value:
Attempting to purchase or sell something sends a signal: An item offered for sale may be viewed as unwanted, thereby depressing its value. An item that someone is attempting to buy may be viewed as desirable, thereby enhancing its value.
Efficient Replenishment (ER): objective is to ensure an optimized product flow through the SC
Automated Store Ordering, Cross Docking, Continuous Replenishment
Reducing Hypothetical Bias
Avoid abstractions, Provide clear information., Ask follow-up questions to test respondents current level of information, Calibration techniques
Ideal Experiment?
If one is able to observe a subject in a controlled setting but where the subject does not perceive any of the controls as being unnatural and there is no deception being practiced
Intent to treat
If instead of using intent to treat comparisons we compared those actually treated to those untreated we could get biased results If noncompliant subjects and dropouts are excluded from the final analysis, it might create important differences among treatment groups ITT analysis maintains balance generated from the original random treatment allocation - so it gives an unbiased estimate of treatment effect In Mastering Metrics, Angrist and Pischke describe ITT analysis: "In randomized trials with imperfect compliance, when treatment assignment differs from treatment delivered, effects of random assignment...are called intention-to-treat (ITT) effects. An ITT analysis captures the causal effect of being assigned to treatment." 38
Why is something that happens in the future worth less than something that happens in the present?
Impatience, Uncertainty about the future, Memory Utility
Why Focus on Supply Chain Management?
Improve return on investment • Improve product availability
Example of the bullwhip effect
Let's say that an actual demand from a customer is 8 units, the retailer may then order 10 units from the distributor; an extra 2 units are to ensure they don't run out of floor stock. The supplier then orders 20 units from the manufacturer; allowing them to buy in bulk so they have enough stock to guarantee timely shipment of goods to the retailer. The manufacturer then receives the order and then orders from their supplier in bulk; ordering 40 units to ensure economy of scale in production to meet demand. So now 40 units have been produced for a demand of only 8 units.
Hypothetical Bias
Majority of studies suggest that hypothetical bias is a significant problem in contingent valuation estimates ⚫ List and Gallet (Envt and Resource Econ, 2001) conducted a meta analysis of 29 studies containing 58 valuations and found that average subjects overstated their preferences by a factor of about 3 in hypothetical settings.
Evolution of SCM 1950s & 1960s
Manufacturers focused on mass production techniques as their principal cost reduction and productivity improvement strategies
WTP-WTA disparity 4. Profit motive:
Many of the goods for which evaluations are required, do not have well-defined values. Instead they are characterized by a range of possible values. Buyers will look to the lower end of this range and sellers will look to the higher end.
2 Explanations from Prospect Theory
People overweight small probabilities - overweight small chance of repair being necessary People are averse to losing $60, so they pay to avoid it
Can't ideal experiments use only choices to separate theories?
Perhaps...but doing so may stretch the limits of experimental feasibility and subject comprehension People automatically look at information, take time to think, refixate if they cannot remember, and so on
why nudge? Welfarist argument:
Potentially large benefits for well being (and often low cost) in particular for those who have the least resources (the poor, the vulnerable)
Contingent Valuation is a form of stated preference method:
The "valuation" estimate obtained is said to be "contingent" on the details of the "constructed market". CV surveys differ from other surveys on public policy issues in several ways: 1. a major portion of the survey is devoted to a description of the goods of interest 2. the elicitation of preference for the good is more extensive than in a typical opinion survey. 3. it involves the elicitation of monetary measure: maximum WTP to obtain a desired good not currently possessed, or minimum compensation (WTA) to voluntarily give up a good currently possessed
Time Inconsistency • Why are preferences dynamically inconsistent?
The answer is that we do not discount all time periods uniformly, a la exponential discounting. That is, we do not apply a constant discount factor δ to all time periods but rather, we have different factors for different time periods.
WTP-WTA disparity 2. Transaction costs:
Transaction costs are those that make a purchase or sale possible, such as traveling to where it will be exchanged. To the extent that transaction costs affect buyers and sellers differently, a WTA-WTP disparity may result.
Natural Field Expt
We report results from a randomized natural field experiment conducted in a restaurant dining setting. We find that, when customers are given ranking information of the five most popular dishes, the demand for those dishes increases by 13 to 20 percent. We also find evidence that dining satisfaction is increased when customers are presented with the information of the top five dishes, but not when presented with only names of some sample dishes
Which of these is a possible explanation for why people exhibit default bias
choosing default bias is a choice heuristic
• Suppose you are about to purchase a calculator for $40. The salesman informs you that the calculator is on sale for $20 at the other branch of the store, which is located 20 minutes away. Would you make the trip to the other store? • Suppose you are about to purchase a jacket for $190. The salesman informs you that the jacket is on sale for $170 at the other branch of the store, which is located 20 minutes away. Would you make the trip to the other store?
different answers imply that $20 savings on the small purchase is a bigger deal than the $20 savings on the big purchase
which one of these is a choice architecture with defaults but structured to favor a specific outcome through wording
enhanced active choice
Which of these statements is true based on our discussions about mental accounting last week
it is generally hard for people to ignore sunk costs
What is an economic experiment?
it is hard to provide a single definition, but some key characteristics are: subjects are incentivized with money; choices have monetary consequences full instructions must be used and available (replicability) deception is not allowed the "rules" or mechanisms (market environments) relating choices to outcomes are clearly defined although first experiments strove to be "context free," now experiments involve context, and take place in laboratory and field settings with student and non-student subjects
Suppose δ = .75. One unit of happiness tomorrow is worth ¾ units of happiness today. Alternatively
it would require 1 / .75, or 1.33 units of happiness tomorrow to yield indifference to one unit of happiness today
Beliefs about the future? • Sophisticates:
know that their plans to be patient tomorrow won't pan out (Strotz, 1957). • "I won't quit smoking next week, though I would like to do so."
Emotions in economic choice: examples
stress and risky choice [causal] arousal and loss-aversion anxiety and 'auction' rules Induced [causal] + measured emotion in price bubble experiments
Which of these is a key characteristics of economic experiments
subjects are incentivized with money
2nd price disadvantages
subjects with low values can become disinterested in multiple rounds
Nudging contrasts with incentive-based ways to achieve behavior change, such as
subsidies, taxes, bans, and mandates
Information links all aspects of
supply chain
• Culture can also affect the amount of detail one recalls
the reference to individuals themselves or other people and social context, and the ability to retrieve the memory after an elapsed time period
People do not weight outcomes by their objective probabilities but rather by transformed probabilities or decision weights
which overweights low probabilities and underweights high probabilities
Based on probability weighting
while the chance of dying soon and hence receiving large loss on annuity is low, probability weighting means that this unlikely event looms large in person's thinking
Key business practices between trading partners are
woefully inefficient
Cognitive dissonance
you don't want to be wrong and feel bad and so you behave in a way that will support your deep beliefs and avoid doing things that you think will/could prove you wrong
Toyota Motors
• (Postwar) Plants destroyed by war • Not enough demand for "mass production" • Solution: "Just-in-time Manufacturing" • Implementation: Drive out all kinds of waste (time, inventory, material, waste products)
Challenges to Adopting Information Sharing
• Aligning incentives between partners • trust • confidentiality • anti-trust issues • financing initial installation • timely and accurate information
New paradigm includes:
• All participants in the supply chain benefit. • Boundaries are dynamic and extend from "the firm's suppliers' suppliers to its customers' customers (i.e., second tier suppliers and customers)." • Supply chains now deal with reverse logistics to handle returned products, warranty repairs, and recycling.
Sophisticates
• Are aware that their preference will change and act in anticipation • They will use commitment devices to help guide their future selves
Net marketplaces:
• Bring together potentially thousands of sellers and buyers in single digital marketplace operated over Internet • Transaction-based • Support many-to-many as well as one-to-many relationships
Private industrial networks:
• Bring together small number of strategic business partner firms that collaborate to develop highly efficient supply chains • Relationship-based • Support many-to-one and many-to-few relationships • Largest form of B2B e-commerce, account for > 10 times revenue of net marketplaces
What contributes to the bullwhip effect?
• Disorganization , with ordering larger or smaller amounts of a product than is needed due to an over or under reaction to the supply chain beforehand. • Free return policies; customers may intentionally overstate demands due to shortages and then cancel when the supply becomes adequate again, • Order batching; companies may not immediately place an order with their supplier; often accumulating the demand first. Companies may order weekly or even monthly. This creates variability in the demand as there may for instance be a surge in demand at some stage followed by no demand after. • Price variations - special discounts and other cost changes can upset regular buying patterns; buyers want to take advantage on discounts offered during a short time period, this can cause uneven production and distorted demand information. • Demand forecast errors!
Present Bias could explain why nudges generate large short term proxy effects (Carroll et al. 2009)
• Enrolling in a 401K is an effortful activity that has immediate utility cost, but yields delayed benefits • Even if effort costs are small, it is better to enroll "tomorrow" than to enroll today • Auto-enrollment eliminates this procrastination effect • This generates the short-run participation and savings rate distribution effect
People do not weight outcomes by their objective probabilities but rather by transformed probabilities or decision weights, which overweights low probabilities and underweights high probabilities Why this matters?
• Extended warranties • Deductibles • Lottery
Walmart DCs
• Generally located within a day's drive from the stores it serves • About 80% of good sold at US Walmart stores arrived through DCs while the rest came straight from suppliers • Separate trucks carrying fast-selling items from trucks carrying slower moving goods. • Walmart only hires experienced drivers without major traffic violations.
Overweighting of Small Probabilities: Certainty Effect
• Impact of 95 to 100% • Outcomes that are less certain are given less weight than their probability justifies
Nudges - longer term welfare effects tend to be generally small! Why?
• In most cases, welfare effects involve cumulative behavior • Welfare effects are driven by persistent mechanisms that tend to substantially undo the short term/proxy effects of transitory nudge interventions• These persistent mechanisms include deep preferences, biases, and institutions
Continuous Replenishment at Campbell Soup
• In real-life tests with four retailers, Campbell Soup found that Continuous Replenishment : • reduced inventories in retailer DCs by 50%,
Overweighting of Small Probabilities: Possibility effect
• Large impact of 0 to 5% • Causes highly unlikely outcomes to be weighted disproportionately more than they deserve
Commitment Device examples
• Mobile phones that block numbers after midnight • Pouring the alcohol down the drain • Throwing away the cigarettes • Forced or automatic saving (Social Security) • Know I'll be tempted by crème brulee, I avoid the restaurant in the first place. • Setting rules - write 10 pages a day, always go to bed by 11 • Alarm clocks that roll off the dresser, or fly into the air. The SnuzNLuz alarm clock is connected by Wifi to your bank account and will donate to a charity you hate every time you hit the snooze button • Stickk.com
A Common Theme
• Necessity is the Mother of Invention (and good business processes) • A passion about the process and continuous process improvement • End-to-end Processes makes everything fit together • End-to-end Processes Makes Everything Make Sense
Dell Computers
• Not enough money for inventory • Solution: Make to order process • Implementation: On-line order taking, made-to-order configuration, minimum inventory, just-in-time delivery
Southwest Airlines
• Not enough planes • Solution: The "10 minute turn" • Implementation: No reserved seating, no expensive reservation system, simple fare system, encourage passengers to arrive early and board quickly
Order to shelf system
• Practice of the distributor replenishing the inventory at the retailer • Also referred to in manufacturing as vendor-managed inventory • Distributors and suppliers usually deliver small batches of product and retailers keep little to no inventory on hand. • Whole Foods announced it was rolling out this "order-toshelf" initiative . Order-to-shelf has the potential to reduce store labor and inventories for Whole Foods
Extranets
• Private networks to allow the organization to securely interact with external parties. • They use Internet protocols and public telecommunication systems to work with external vendors, suppliers, dealers, customers, and so on.
People's willingness to accept a larger amount in the future versus a smaller amount sooner can impact a variety of important behaviors, e.g.,
• Savings for retirement. • Consumption of alcohol, fatty food, smoking. • Attitudes toward environmental protection.
Characteristics of SCM
• Spans the entire chain from initial source to ultimate consumer • potentially involves many independent organizations • includes bi-directional flow of products and information • seeks to fulfill the goals of providing high consumer value and building competitive chain advantages
Criteria for Successful Partnerships
• Strategic complementarity• Cultural congruence
Enabling Technologies • Item Coding and Database Management
• aids in collecting and processing data • Universal Product Code (UPC) • European Article Numbering (EAN) code system
Redesign the roles and processes in the SC
• change or reduce the number of parties involved • change the location of facilities • re-allocate the roles actors perform and related processes • eliminate non-value adding activities
Naives
• do not realize that their preferences will change • They can get in trouble frequently • They don't see the need for a commitment device
SCM Redesign Principles •Reduce customer order lead times
• implement ICT systems for information exchange and decision support • reduce waiting times • minimize travel distance • increase manufacturing flexibility, improve reliability of supply and production quality
Synchronize all logistical processes to the consumer demand process
• increase number of production runs • transport of goods in small quantities with resulting minimal inventory levels • HEB's scanner based payment
Coordinate logistical decisions
• minimize human intervention in the system to reduce errors and improve speed • grouping products in stores according to consumer use (e.g., Category management) • standardization of components, production methods and processes (e.g. Dell Computer online ordering and delivery system)
An example of a private industrial network • Wal-mart
• provides suppliers with timely sales data • with its Retail Link system, major suppliers have "earth stations" installed by w/c they are directly connected to Walmart's info network (introduced in 1990) • lets suppliers know what to produce and where to ship the goods (automatic replenishment) based on Walmart's scanner data • no need for purchase orders • Now, they also have SPARC (Supplier Portal Allowing Retail Coverage) app.
Nudges are NOT
• shoves • bans, taxes, jail sentences, civic penalties • financial incentives, subsidies • ends paternalistic (but: means paternalism)
Cultural congruence
• the degree of congruence of the partners' beliefs, value systems, and norms • trust and commitment factors
Uncertainty is expressed as:
• what will my customers order • how many products should I have in stock • will the supplier deliver the goods on time
Distribution Center
•A large, highly automated warehouse designed to receive goods from various plants and suppliers, take orders, fill them efficiently, and deliver goods to customers as quickly as possible
SC Uncertainty
•Refers to decision making situations in the SC in which the decision-maker lacks effective control actions or is unable to accurately predict the impact of possible actions on system behavior
Intranets
•Web-based networks that allow all employees of a firm to intercommunicate. • They are usually firewall protected and use existing Internet technologies to create portals for company-specific information and communication, such as newsletters, training, human resource information and forms, product information, and so on.
The most important supply chain management complaints where?
•resistance to change (52%), •complexity of the SC (49%), •an incompatible internal organisation (41%), •not co-ordinated objectives (39%), and •lack of co-ordination between different disciplines (34%).
Buying or selling involves a potential for regret:
► Anticipating the regret I may feel if I later learn that I paid a higher price than I had to, I state a lower price ► Anticipating the regret I will feel if I later conclude that I miss the good more than I thought I would, I raise my offer
Payment Card ⚫ Disadvantages
⚫ Subject to range and centering biases ⚫ Dubourg et al (Economica 1997) and Bateman (2003) show that payment cards with higher upper values may elicit higher mean and median values ⚫ List monetary amounts high to low or low to high?
So how could one apply the concept of loss aversion?
1) Commission of salesmen 2) Employee's contribution to own retirement to be matched by employer up to 10% (e.g., UA) 3) Money back guarantee
4 Elements of Prospect Theory
1) Reference Dependence 2) Loss Aversion 3) Diminishing Sensitivity 4) Probability Weighting
The standard neoclassical model is used for two distinct purposes
1) Solve for the best way to do some problem; e.g., profit max, life cycle savings, EU max 2) Describe how people actually make those choices (need BE)
Lagged consumption
Consistent with major theme in happiness literature (adaptation) • Life changes first affect us a lot, but eventually their influence on our utility fades since our reference point adjusts to the change
Internal Influences of Lifestyles
Perception and attitudes, Learning and Memory, Motives, Personality, Emotion
Recent Expectations (Koszegi and Rabin)
Potential of earning $x becomes part of people's reference point so they stop working at $x like the income target of NYC cab drivers • Consider a consumer whose reference point for evaluating a purchase is her recent expectations
Some explanations why people exhibit default bias
Pre-selected option simply attracts more attention, Loss aversion - if default is treated as a reference point, dimensions on which the rival option is worse than the default get relatively more weight than dimensions on which the rival option is better, Default option is perceived as advice, Choosing default is a choice heuristic (i.e., use simple rules such as following the default; also to avoid mental cost)
Loss Aversion is?
The idea that people are much more sensitive to losses than to gains of the same magnitude
Herbert Simon (behavioral economics)
The phrase "behavioral economics" appears to be a pleonasm. What "non-behavioral" economics can we contrast with it? The answer to this question is found in the specific assumption about human behavior that are made in neoclassical economic theory
for organ donation, one could ask potential donors to imagine herself or a loved one needing an organ donation.
This was found the most persuasive nudge statement in Canada.
In particular, behavioral economics adds?
bounded rationality, • biases in interpreting information, • interdependent preferences, • emotions, • Learning
McDonalds: Animal Welfare
buy all beef, pork and poultry products from suppliers who maintain standards and commitment to animal welfare continues to implement comprehensive and objective measurement system for good animal handling practices based on animal behavior science McDonald's requires its suppliers to meet or exceed all applicable government laws and regulations and meat industry standards related to animal welfare.
Active choice makes the decision more salient
discouraging the use of heuristics and combatting tendencies to procrastinate
Motives, Personality, Emotion
psychological, feelings
Danziger et al. (2011)
report that likelihood a parole judge rules in favor of prisoner decreases over the course of the day, as the judge experiences choice fatigue. This pattern, however, continues only until the judge has a food break!
Ability to make choices is depleted over time
so defaults become more attractive, particularly if the decision maker has had to make taxing decisions in the recent past.
Utility maximization yields?
the Optimal Consumption Choices for Consumer
as purchase experience increases, we learn:
the most effective sources of information, the best places to shop, best brand names and those to avoid
Culture Dependent Preferences
the world of reality is processed differently from culture to culture
Mutant sheep are being bred in lab to fight lethal child brain disease. The condition, Batten disease
usually starts in childhood and is invariably fatal, often within a few years of diagnosis
Pareto (1906)
"The foundation of political economy and in general of every social science is evidently psychology. A day may come when we shall be able to decide the laws of social science from the principles of psychology"
Diminishing sensitivity; Proportional vs absolute terms Which scenario would you prefer:
1. You make $80,000 in a world where everyone else makes $50,000 2. You make $90,000 in a world where everyone else makes $150,000
Chen discovered that speakers with weak future tenses (e.g. German, Finnish and Estonian) were?
30 percent more likely to save money, 24 percent more likely to avoid smoking, 29 percent more likely to exercise regularly, and 13 percent less likely to be obese, than speakers of languages with strong future tenses, like English
Diminishing Sensitivity; Gratification
87 days vs 88 days; 0 days vs 1 day
Diminishing sensitivity; Visually
88 ft away vs 87 ft away ; 2 ft vs 1 ft
Graphically a budget can be represented by?
A Budget Line in Commodity Space
Graphically equilibrium is achieved when?
Budget Line Is Tangent to the Indifference Curve
Example of Framing Effects:
Concerning a risky medical procedure, when people are told "of those who have this procedure, 90 percent are alive after five years" they are far more likely to agree to the procedure than when they are told that "of those who have this procedure, 10 percent are dead after five years" [Tversky-Kahneman].
repugnant transactions/markets
Horsemeat consumption in Italy vs US Payment for plasma blood allowed in US but not in Canada
Comparison Effect:
If she had been expecting to buy a product cheaply, paying more for it would feel like a loss, so she is less likely to buy it.
Loss aversion and framing
If the same choice is framed as a loss, rather than as a gain, different decisions will be made.
Economist Keith Chen found that speakers of languages without strong future tenses tended to be more responsible about planning for the future.
In English, we say "I will go to the play tomorrow." That's strong future tense. In Mandarin or Finnish, which have weaker future tenses, it might be more appropriate to say, "I go to the play tomorrow."
Economic Variables in A Demand Function Include:
Income and Prices
The Theory of Consumer Behavior Is Based on?
Individual Consumers
What behavioral economics does?
It adds to the standard model of economics some reality about how humans behave.
Adam Smith: Behavioral Economist?
Loss Aversion: "Pain...is, in almost all cases, a more pungent sensation than the opposite and correspondent pleasure (1759) Present-biased/Self Control: "The pleasure which we are to enjoy 10 years hence, interests us so little in comparison with that which we may enjoy today (1759) Overconfidence: "The over-weening conceit which the greater part of men have of their own abilities (1776)
Social Comparisons
People compare their outcomes to those of others around them • Eg. Woman is more likely to work if her sister or sister in law works or if her sister's husband makes more money than her own husband (Neumark and Postlewaite)
animal welfare regulations tied to government incentive payments
Switzerland
Econs vs Humans
The core assumption of neoclassical economics is that agents choose by optimizing!
One explanation for the Easterlin paradox is that people don't just care about absolute income, but they also care about relative income - where they are relative to everyone else. Some goods are positional goods - part or all of their utility come from the relative distribution.
You make $80,000 ; all of your co-workers make $60,000
For more psychological realism along three dimensions
allow for less than fully rational beliefs use more realistic preferences take account of cognitive limits
Henrich et al. (2001) compared the responses to ultimatum games across different tribes
• In an ultimatum game a player proposes how to divide a sum of money with another player. If the second player rejects the proposed allocation, neither gets anything. If the second player accepts, the first gets their demand and the second gets the rest • Results show that the average offer varies systematically across tribes (from a minimum of 26% for the Machiguenga tribe in Peru to a maximum of 58% for the Lamelara tribe in Indonesia) in a way that is correlated with the prevailing occupation of a tribe • Tribes whose basic subsistence activities required larger economies of scale and thus higher level of cooperation offered more • Suggests that once culture is formed, it persists and impacts economic relations beyond those which formed them
Objective Component is Budget Constraint
• Money Available
Endowment effect
• Offers strong support for prospect theory • Individuals are more sensitive to declines in consumption relative to the reference point than to increases • 2 Distinct Findings • WTP/WTA gap • Exchange asymmetries
Endowment effect definition:
• People value a thing more once it becomes theirs • Ownership increases utility
