Assumption Of Rational Behavior Research Articles

Bihevioralne finansije - testiranje hipoteze efikasnog tržišta na Beogradskoj berzi

The goal of this paper is to highlight the limitations and reasons for the failure in modeling and materialization of scientific findings due to the assumption of rational behavior by investors. The confirmed inefficiency in the capital market affects investors in such a way that their decisions are not based on a proper evaluation of financial instruments. The results of the conducted empirical research disprove the hypothesis of traditional finance, which assumes rational decision-making. Therefore, to comprehend the process of investment decision-making, it is necessary to adopt the approach offered by behavioral finance, which incorporates a component of irrationality. The purpose is to analyze Belex15 yields and volatility with the aim of making effective investment decisions by applying and comparing the results of ARCH and GARCH models. These models are designed for time-series analysis, considering the observed instability of conditional variance. Using 2,517 daily logarithmic returns of Belex15, the E-GARCH model was selected, and the results suggest that investors must be cautious in their decision-making as the impact of negative shocks on yield volatility has a strong long-memory effect, making these investments highly risky, especially during unfavorable economic conditions.

БРЕНДИНГ У СУЧАСНІЙ ЕКОНОМІЦІ ВРАЖЕНЬ

The paper considers the new concept of branding in the experience economy. Brands develop under the influence of social and economic changes in society. In the meantime, brands influence people's behavior, therefore business has given great attention to branding. Classical economics is based on the assumption of rational behavior of consumers. In fact, people often make purchases based on other, non-rational impulses. Behavioral economics explains consumer actions better because it takes into account more different factors. The mechanism of brand influence on consumer decisions is described in behavioral economics more accurately. It is of great importance for business. Understanding of consumers allows you to predict their behavior. Today people tend to receive impressions other than goods and services. Joseph Pine and James Gilmore suggest using the concept of "experience economy". This allows us to penetrate into the inner world of the consumer and understand his needs even more precisely. The composition of the consumer basket has changed; impressions and experience occupy a significant place and replace services. Under the circumstances, business and consumer communications are changing. The brand plays an increasingly important role in the new system of communications. The brand helps to identify the product, get more information about its benefits and create positive emotions and experiences. The formation of experience is a new function of the brand. To fulfil this new function it is necessary to create a special mechanism of influence on the target audience. This mechanism consists of target customers' information environment, customers' values, tools for influence and management. The study of customer values is an important part of the experience formation mechanism. Research shows that different generations have some common values. However, at the same time, each age group has its own specific values. Branding should take into account both common values and peculiarities of values of different generations. Each particular case requires a specific brand program to influence consumers to form impressions and experience.

The Managerial Discretionary Ability and Leverage Growth Under Boundaries of Discretionary Environment and Leverage Capacity

This paper investigates the relationship between managerial discretionary ability and growth in corporate leverage by extending a capital adjustment model under a constraint system. The capital structure literature seeks for new determinants to explain active management of capital structure. The recent studies of capital structure turned to alternative explanations to understand the capital structure policies of the firms, for instance by looking into possible explanations by agency theory and its underlying assumption of rational behavior (decision-making). However, rationality of capital structure decisions by managers are bounded to certain constraints. In this paper, I present a framework to add a system of constraints to my empirical investigation and extend a capital adjustment model to capture the satisficing effect of managers’ decision (satisfactory and sufficiently enough decisions) on corporate leverage under bounded rationality. The extended capital adjustment model estimates the satisficing effect, the effect of capital structure decisions bounded rationally, on the active capital structure management. My findings imply that the active management of capital structure is a heterogeneous practice, inferred from the constraint system that bounds the rationality of managers, therefore managerial discretionary ability is a determinant of active capital management practices.

Exceeding Expectations: Economic Forecasts and Underreaction to Macroeconomic Announcements

Existing research relies on the assumption of rational behavior and argues that only unexpected macroeconomic news may affect stock prices. Unlike these papers, we find significant stock price effects of expected components of macroeconomic announcements, which are revealed by survey forecasts of market participants. Since economic forecasts are systematically biased towards the values of previous announcements, we hypothesize that the historical information embedded in these forecasts may impact stock prices. Our results confirm this hypothesis and suggest that some investors trade on historical macroeconomic announcements.

Maximization, learning, and economic behavior.

The rationality assumption that underlies mainstream economic theory has proved to be a useful approximation, despite the fact that systematic violations to its predictions can be found. That is, the assumption of rational behavior is useful in understanding the ways in which many successful economic institutions function, although it is also true that actual human behavior falls systematically short of perfect rationality. We consider a possible explanation of this apparent inconsistency, suggesting that mechanisms that rest on the rationality assumption are likely to be successful when they create an environment in which the behavior they try to facilitate leads to the best payoff for all agents on average, and most of the time. Review of basic learning research suggests that, under these conditions, people quickly learn to maximize expected return. This review also shows that there are many situations in which experience does not increase maximization. In many cases, experience leads people to underweight rare events. In addition, the current paper suggests that it is convenient to distinguish between two behavioral approaches to improve economic analyses. The first, and more conventional approach among behavioral economists and psychologists interested in judgment and decision making, highlights violations of the rational model and proposes descriptive models that capture these violations. The second approach studies human learning to clarify the conditions under which people quickly learn to maximize expected return. The current review highlights one set of conditions of this type and shows how the understanding of these conditions can facilitate market design.

Braess paradox under the boundedly rational user equilibria

The Braess paradox and its variants have been studied under the perfectly rational behavior assumption. However, when the perfect rationality assumption is relaxed to bounded rationality, which assumes that travelers can take any route whose travel cost is within an ‘indifference band’ of the shortest path cost, it remains unclear under what conditions the Braess paradox occurs. This paper fills this gap by exploring relationships between the occurrence of the Braess paradox and the indifference band as well as the demand level in the setting of the boundedly rational user equilibrium (BRUE). The definition of the Braess paradox is extended based on planners’ risk-taking attitudes, i.e., risk-averse, risk-prone and risk-neutral, due to the non-uniqueness of BRUE. The paradox occurrence conditions under different risk-taking attitudes are investigated using the classical Braess network and compared with those under the user equilibrium. Then we generalize the paradox conditions to simple and ordinary grid networks with regular Bureau of Public Roads (BPR) link performance functions. The impact of the link cost congestion sensitivity along with the indfference band on the occurrence of the Braess paradox is also studied.

Social Market Economy Is Not an Oxymoron

“Continental law is irrational. American law is irresponsible.” With this phrase, Christoph Engel has described the prejudices on both sides of the Atlantic regarding legal science. Indeed, both legal systems seem to have noticed a need to correct these failures. In European legal science, arguments of efficiency based on the assumption of rational behaviour increasingly gain momentum. In the USA regulators increasingly take into account market failures based on information from “the people” as they “speak” through behavioural science research. Some European scholars have taken the development in the USA as an opportunity to also call for more implementation of behavioural sciences into European regulation. While this is a valid concern, I will argue that they nonetheless often seek to cure a disease that is not as pertinent in EU internal market law as it is in US economic law. They transfer solutions from US regulation to EU internal market law without asking whether European and US American problems are similar and whether the cure is the same. They thereby neglect the fact that both legal systems are embedded in different legal cultures or domains, as they have developed differently in course of history and seek to remedy also different problems by regulation. I will show that quite a number of problems that the USA corrects by using behavioural research have not (yet) materialized in EU internal market law, but others have. Due to its intrinsic need to establish an internal market even against the nation state’s will, EU law has always had to rely on the responsiveness of its peoples in order to make the establishment of the internal market a success. As to this need, purely efficiency-driven macro-economic regulation without a social bottom-up backup by the peoples of Europe has always failed. EU law hence witnesses a “legitimacy market failure”, which is the outcome of the specific setting of the multi-level character of EU law. This legitimacy market failure, I argue, needs to be cured with behavioural research. It is this behavioural approach that provides the EU with the means it needs to secure legitimacy in its regulation and even expand its regulative capacity against the Member States’ to an extent where it could even regulate in areas where no norm explicitly provides it with any competence.

Boundedly rational user equilibria (BRUE): Mathematical formulation and solution sets

Boundedly rational user equilibria (BRUE) represent traffic flow distribution patterns where travellers can take any route whose travel cost is within an ‘indifference band’ of the shortest path cost. Those traffic flow patterns satisfying the above condition constitute a set, named the BRUE solution set. It is important to obtain all the BRUE flow patterns, because it can help predict the variation of the link flow pattern in a traffic network under the boundedly rational behavior assumption. However, the methodology of constructing the BRUE set has been lacking in the established literature. This paper fills the gap by constructing the BRUE solution set on traffic networks with fixed demands. After defining ε-BRUE, where ε is the indifference band for the perceived travel cost, we formulate the ε-BRUE problem as a nonlinear complementarity problem (NCP), so that a BRUE solution can be obtained by solving a BRUE–NCP formulation. To obtain the BRUE solution set encompassing all BRUE flow patterns, we propose a methodology of generating acceptable path set which may be utilized under the boundedly rational behavior assumption. We show that with the increase of the indifference band, the acceptable path set that contains boundedly rational equilibrium flows will be augmented, and the critical values of indifference band to augment these path sets can be identified by solving a family of mathematical programs with equilibrium constraints (MPEC) sequentially. The BRUE solution set can then be obtained by assigning all traffic demands to the acceptable path set. Various numerical examples are given to illustrate our findings.

Boundedly Rational User Equilibria (BRUE): Mathematical Formulation and Solution Sets

Boundedly rational user equilibria (BRUE) represent traffic flow distribution patterns where travellers can take any route whose travel cost is within an ‘indifference band’ of the shortest path cost. Those traffic flow patterns satisfying the above condition constitute a set, named the BRUE solution set. It is important to obtain all the BRUE flow patterns, because it can help predict the variation of the link flow pattern in a traffic network under the boundedly rational behavior assumption. However, the methodology of constructing the BRUE set has been lacking in the established literature. This paper fills the gap by constructing the BRUE solution set on traffic networks with fixed demands connecting multiple OD pairs. According to the definition of the ɛ-BRUE, where ɛ is the indifference band for the perceived travel cost, we formulate the ɛ-BRUE problem as a nonlinear complementarity problem (NCP), so that a BRUE solution can be obtained by solving a BRUE-NCP formulation. To obtain the whole BRUE solution set encompassing all BRUE flow patterns, we firstly propose a methodology of generating various path combinations which may be utilized under the boundedly rational behavior assumption. We find out that with the increase of the indifference band, the path set that contains boundedly rational equilibrium flows will be augmented, and the critical values of indifference bands to augment these path sets can be identified by solving a family of mathematical programs with equilibrium constraints (MPEC) sequentially. After these utilized path sets are attained, the BRUE solution set can be obtained when we assign all traffic demands to these utilized paths. Various numerical examples are given to illustrate our findings.

Decision Making Under Risk on Independence Axiom: Lab Study of Traditional Merchant in Yogyakarta, Indonesia

This study presents basic analysis of individual preferences by experiment set and provides evidence that encounters expected utility theory (EUT). The main focus of this study is the independence axiom on decision making under risk which is required by EUT for rational behavior assumption. While people are difficult to follow the independence axiom, individual preferences cannot be predicted using EUT and alternative theory is required to predict individual preferences. The alternative theory of choice has been developed in many previous studies to give a different analysis instead of EUT. We also develop estimation analysis of factors affecting individual preferences according to independence axiom. In addition, this study provides an analysis of sex different by comparing both men and women preferences under risk. Allais paradox phenomena are performed for the design of systematically deviations proposed by prospect theory.

Developing an Organizational Perspective to Management Accounting

B eing asked to make a short speech as part of accepting the award inevitably leads to some introspection and reflection on major factors that have influenced one’s career, be they events or individuals. Past recipients of the award have been very influential in putting management accounting on the map. Some have been instrumental in developing the way we think about management accounting and teach the subject; some have developed important perspectives such as information economics, combining economics with psychology, the importance of national culture, activity-based cost management, and balanced scorecards. The way these recipients developed their thoughts is well told in their acceptance speeches and collectively provides a wealth of ideas and a historical perspective on the development of our discipline. I commenced my studies in economics, and I maintain a keen interest in economic approaches to management accounting. However, early in my academic career, I was pressed into considering an organizational approach to management accounting, not because it was an easier option; rather it addressed the world of management accounting within which I found myself. In this address, I will share with you some personal reflections on the process of my discoveries in the area of organizational approaches to management accounting from the mid-1960s. The backdrop to this address is that research is something of a growth model. Stage 1: starting from a baseline of skills and knowledge gained at undergraduate studies; stage 2: progressing through refinement of skills with more graduate study; and stage 3: consolidating through work toward publications and other academic outputs. Stages 1 and 2 are somewhat planned and incremental, while stage 3 is more often associated with less ordered processes, often stumbling across potential research areas by way of reading and personal interactions. Research projects can be focused around existing ideas, sometimes being somewhat formulaic, sometimes highly innovative. Often ideas can be serendipitous and develop in unpredictable ways. The key is to recognize when there is a management accounting angle that will relate to an important organizational or social issue.

The Anatomy of Error in Decision-Making of Rationally Behaving Agents from the Perspective of the Theory of Bounded Rationality: Extension for Contextual Games

How can errors in decision-making by rationally behaving individuals be explained? The concepts of bounded rationality proposed by H. Simon and of imperfect information in the complex reality by F. Hayek attack the over-restrictive assumption of perfectly informed individuals or organisms in neoclassical microeconomics. Since this assumption excludes erroneous decision-making, some results must be explained by questioning the rationality assumption. In this paper, we show that erroneous decision-making of individuals and organisms is not necessarily erroneous if we look at the contextual games which individuals and organisms play in the complex reality. This helps to explain errors in the decision-making of individuals or organisms, while maintaining the assumption of rational behavior. At the same time, we show that the errors observed in the contextual analysis of games in the decision-making of individuals or organisms can only be apparent.

Endogenous Reactivity in a Dynamic Model of Consumer’s Choice

We move from a boundedly rational consumer model (Naimzada and Tramontana, 2008, 2010) characterized by a gradient‐like decisional process in which, under particular parameters conditions, the asymptotical convergence to the optimal choice does not happen but it does under a least squared learning mechanism. In the present paper, we prove that even a less sophisticated learning mechanism leads to convergence to the rational choice and also prove that convergence is ensured when both learning mechanisms are available. The stability results that we obtain give more strength to the rational behavior assumption of the original model; in fact, the less demanding is the learning mechanism ensuring convergence to the rational behavior, the higher is the probability that even quite naive consumers will learn the composition of their optimum consumption bundles.

Weather, investor irrationality and day-of-the-week anomaly: case of Indonesia

Finance is based on rational behavior assumption. Thus, the existence of day-of-weekend anomaly in the market can be the anti thesis of the assumption. Much research suggested the role of psychology as the explanation of this anomaly. However, it is rare to find a research investigating the relationship between psychology and day-of-week anomaly (DOWA). As one of the psychology factors is weather-induced mood, this research aims to investigate the relationship between weather cycle and DOWA. This paper used Indonesia average temperature level from 1999 up to 2009 for determining the proxy of moods; and found temperature level does not explain the market returns movements. Temperature level influences the DOWA implying the moods of investor establish the irrational behavior of the market. This result can be used as the explanation of irrationality behavior of investor on Monday. Further research is needed in term of investigating the relationship between psychology factors (need for cognition, heuristic bias, information ignorance, and other factors) and investor behavior.

The Financial Crisis as a Symbol of the Failure of Academic Finance? (A Methodological Digression)

The failure of academic finance can be considered one of the symbols of the financial crisis. Two important underlying reasons why academic finance models systematically fail to account for real-world phenomena follow directly from two conventions: (a) treating economics not as a 'true' social science (but as a branch of applied mathematics inspired by the methodology of classical physics); and (b) using economic models as if the empirical content of economic theories is not very low. Failure to understand and appreciate the inherent weaknesses of these 'conventions' had fatal consequences for the use and interpretation of key academic finance concepts and models by market practitioners and policymakers. Theoretical constructs such as the efficient markets hypothesis, rational expectations, and market completeness were too often treated as intellectual dogmas instead of (parts of) falsifiable hypotheses. The situation of capture via dominant intellectual dogmas of policymakers, investors, and business managers was made worse by sins of omission - the failure of academics to communicate the limitations of their models and to warn against (potential) misuses of their research - and sins of commission - introducing (often implicitly) ideological or biased features in research programs Hence, the deeper problem with finance concepts such as the 'efficient markets hypothesis' and 'ratex theory' is not that they are based on assumptions that are considered as not being 'realistic'. The real issue at stake with academic finance is not a quarrel about the validity of the assumption of rational behavior but the inherent semantical insufficiency of economic theories that implies a low empirical content (and a high degree of specification uncertainty). This perspective makes the scientific approach advocated by Friedman and others less straightforward. In addition, there is wide-spread failure to incorporate the key implications of economics as a social science. As response to these 'weaknesses' and challenges, five suggested principles or guidelines for future research programmes are outlined.

Inflation Expectations, Uncertainty and Monetary Policy

Monetary economics as practiced by central bank modelers has made a great deal of progress in recent years. In a 2002 paper I interviewed research economists at four central banks and surveyed the models in use at those banks. I criticized the models for having lost all touch with statistical inference and with its connection to decision theory. I also criticized them for not following the rational expectations literature by jointly specifying and estimating the equations in their systems. And I pointed out that none of the models had a consistent treatment of asset markets. Since then many central banks, taking advantage of the new computational methods for Bayesian inference that economists are learning to use, have made substantial progress toward meeting the first two of these criticisms. They have still for the most part done little about the third. And academic economists are beginning to question some of the standard assumptions in the rational expectations framework that underlies these models. Recent events in financial markets, and the difficulties that they raise for central banks, make it painfully clear that even the frontier Bayesian DSGE models like that in use at the Swedish Riksbank do not model asset markets in any depth. But the problem goes beyond that: these models, and most academic macro models as well, assume a standard rational expectations framework: there is only one probability measure in play, the 'true' probability measure from which nature draws realizations. Agents in the model form expectations using this true distribution, conditioning on information sets that consist of all information in the model dated t and earlier. It is well documented that people do not actually behave this way, and in the literature on behavioral finance there is some suggestion that deviations from this standardized assumption of rational behavior given a common probability distribution may be important. The recent events in financial markets - the dotcom boom, the US house price boom, perhaps the continuing commodity price boom - look to some observers like bubbles that must have fed off some sort of irrational behavior. Many observers think that monetary policy might have somehow fueled these bubble-like episodes in asset markets. These are important questions for monetary policy, and it is disturbing that the monetary policy models in use cannot even be used to pose these questions. In this paper I focus on two particular, and related, deviations from the assumption that all agents have the same probability distribution and that they optimally process all information available up to some date t. I consider the implications of agents' being able to process information only at a limited rate, and the implications of agents' assuming differing probability distriubions. This is part of a series of BIS Working Papers (273 to 278) collecting papers presented at the BIS's Seventh Annual Conference on 'Whither monetary policy? Monetary policy challenges in the decade ahead' in Luzern, Switzerland, on 26-27 June 2008. The event brought together senior representatives of central banks and academic institutions to exchange views on this topic. BIS Paper 45 contains the opening address of William R White (BIS), the contributions of the policy panel on 'Beyond price stability - the challenges ahead' and speeches by Edmund Phelps (Columbia University) and Martin Wolf (Financial Times). The participants in the policy panel discussion chaired by Malcolm D Knight (BIS) were Martin Feldstein (Harvard University), Stanley Fischer (Bank of Israel), Mark Carney (Bank of Canada) and Jean-Pierre Landau (Banque de France). This Working Paper includes comments by Athanasios Orphanides and Lars E O Svensson.

Linking Strategic Interaction and Bargaining Theory: The Harsanyi-Schelling Debate on the Axiom of Symmetry

This paper analyzes the early contributions of John Harsanyi and Thomas C. Schelling to bargaining theory. In the 1950s, Harsanyi draws Nash's solution to two-person cooperative games from the bargaining model proposed by Zeuthen (1930), and Schelling proposes a multifaceted theory of conflict that, without dismissing the assumption of rational behavior, points out some of its paradoxical consequences. Harsanyi's and Schelling's contrasting views on the axiom of symmetry, as postulated by Nash (1950), are then presented. This debate explains why, although in the early 1960s two different approaches to link strategic interaction and bargaining theory were proposed, only Harsanyi's insights were fully developed later.

Implications of Risk Perception Under Assumption of Rational Driver Behavior

This paper presents research on driver risk perception and its connection with driver selection of speed and with highway safety. The paper also supports the theory of rational behavior. The implications of driver risk perception on the speed-safety relationship and on use of speed as a surrogate measure of safety are discussed. The authors distinguish two distinct speed-safety relationships: one under fixed roadway conditions and the second under changing roadway conditions. The paper demonstrates that a population of drivers can perceive risk that is consistent with the actual risk of crash, and that assumption of rational behavior is useful in explaining why roads with higher speeds are perceived as, and tend to be, less risky. Road improvements are used by drivers mainly to improve mobility and, to a lesser extent, their road safety. Speed can be used as a surrogate measure of safety if the change in speed has been accomplished without changing the road geometry. Otherwise, the safety effect of the im...

Implications of Risk Perception under Assumption of Rational Driver Behavior

This paper presents research on driver risk perception and its connection with driver selection of speed and with highway safety. The paper also supports the theory of rational behavior. The implications of driver risk perception on the speed–safety relationship and on use of speed as a surrogate measure of safety are discussed. The authors distinguish two distinct speed–safety relationships: one under fixed roadway conditions and the second under changing roadway conditions. The paper demonstrates that a population of drivers can perceive risk that is consistent with the actual risk of crash, and that assumption of rational behavior is useful in explaining why roads with higher speeds are perceived as, and tend to be, less risky. Road improvements are used by drivers mainly to improve mobility and, to a lesser extent, their road safety. Speed can be used as a surrogate measure of safety if the change in speed has been accomplished without changing the road geometry. Otherwise, the safety effect of the improvement is not clear and should be evaluated directly using crash-based statistics.

An analytical approach to the study of cooperation in wireless ad hoc networks

In wireless ad hoc networks, nodes communicate with far off destinations using intermediate nodes as relays. Since wireless nodes are energy constrained, it may not be in the best interest of a node to always accept relay requests. On the other hand, if all nodes decide not to expend energy in relaying, then network throughput will drop dramatically. Both these extreme scenarios (complete cooperation and complete noncooperation) are inimical to the interests of a user. In this paper, we address the issue of user cooperation in ad hoc networks. We assume that nodes are rational, i.e., their actions are strictly determined by self interest, and that each node is associated with a minimum lifetime constraint. Given these lifetime constraints and the assumption of rational behavior, we are able to determine the optimal share of service that each node should receive. We define this to be the rational Pareto optimal operating point. We then propose a distributed and scalable acceptance algorithm called Generous TIT-FOR-TAT (GTFT). The acceptance algorithm is used by the nodes to decide whether to accept or reject a relay request. We show that GTFT results in a Nash equilibrium and prove that the system converges to the rational and optimal operating point.