Modeling Imprecision in Perception, Valuation and Choice
Traditional decision theory assumes that people respond to the exact features of the options available to them, but observed behavior seems much less precise. This review considers ways of introducing imprecision into models of economic decision making, and stresses the usefulness of analogies with the way that imprecise perceptual judgments are modeled in psychophysics — the branch of experimental psychology concerned with the quantitative relationship between objective features of an observer's environment and elicited reports about their subjective appearance. It reviews key ideas from psychophysics, provides examples of the kinds of data that motivate them, and proposes lessons for economic modeling. Applications include stochastic choice, choice under risk, decoy effects in marketing, global game models of strategic interaction, and delayed adjustment of prices in response to monetary disturbances.
Prepared for the Annual Review of Economics, volume 12. I would like to thank Rava Azeredo da Silveira, Andrew Caplin, Paul Glimcher, Mel Win Khaw, Ziang Li, Rafael Polania, Arthur Prat-Carrabin, Antonio Rangel, and Christian Ruff for helpful discussions. The views expressed herein are those of the author and do not necessarily reflect the views of the National Bureau of Economic Research.
Michael Woodford, 2020. "Modeling Imprecision in Perception, Valuation, and Choice," Annual Review of Economics, vol 12(1).