Discrete adjustment to a changing environment: Experimental evidence

•A laboratory experiment sheds light on the nature of discrete adjustment dynamics.•Subjects depart systematically from the Bayesian benchmark.•Subjects adjust infrequently, stochastically, by both large and small amounts.•A model of inattentive adjustment quantitatively outperforms popular alternat...

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Bibliographic Details
Published inJournal of monetary economics Vol. 91; pp. 88 - 103
Main Authors Khaw, Mel Win, Stevens, Luminita, Woodford, Michael
Format Journal Article
LanguageEnglish
Published Elsevier B.V 01.11.2017
Subjects
Adjustment hazard
Generalized Ss model
Menu costs
Rational inattention
D84
Adjustment hazard
Generalized Ss model
Menu costs
E03
C91
Rational inattention
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Summary:•A laboratory experiment sheds light on the nature of discrete adjustment dynamics.•Subjects depart systematically from the Bayesian benchmark.•Subjects adjust infrequently, stochastically, by both large and small amounts.•A model of inattentive adjustment quantitatively outperforms popular alternatives. A laboratory experiment illustrates cognitive limitations in decision-making that may be relevant for modeling price-setting. Our subjects systematically depart from the optimal Bayesian response in several respects. Their responses are random, even conditioning on available information. Subjects adjust in discrete jumps rather than after each new piece of information, and by both large and small amounts, contrary to the predictions of an “Ss” model of optimal adjustment subject to a fixed cost. And they prefer to report “round numbers,” even when that requires additional effort. A model of inattentive adjustment is found to quantitatively outperform popular alternatives.
ISSN:0304-3932
1873-1295
DOI:10.1016/j.jmoneco.2017.09.001