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Federal Reserve Bank of Atlanta
FRB Atlanta Working Paper
Overconfidence, Subjective Perception, and Pricing Behavior
Pierpaolo Benigno
Anastasios G. Karantounias

We study the implications of overconfidence for price setting in a monopolistic competition setup with incomplete information. Our price-setters overestimate their abilities to infer aggregate shocks from private signals. The fraction of uninformed firms is endogenous; firms can obtain information by paying a fixed cost. We find two results: (1) overconfident firms are less inclined to acquire information, and (2) prices might exhibit excess volatility driven by nonfundamental noise. We explore the empirical predictions of our model for idiosyncratic price volatility.

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Pierpaolo Benigno & Anastasios G. Karantounias, Overconfidence, Subjective Perception, and Pricing Behavior, Federal Reserve Bank of Atlanta, FRB Atlanta Working Paper 2017-14, 01 Nov 2017.
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Keywords: overconfidence; imperfect common knowledge; information acquisition; inflation volatility
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