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Market competition for decision rights: An experiment based on the “Hat Puzzle Problem”

Choo, Lawrence (2016): Market competition for decision rights: An experiment based on the “Hat Puzzle Problem”.

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Abstract

This paper investigates the conventional wisdom that market competition for the rights to perform decision-making tasks improves aggregate performances in all relevant tasks by diverting decision rights to individuals who are better able to utilise them. To do so, I use an experiment that embeds asset markets into the Hat Puzzle Problem game. I show that players’ performances in the game will depend on their ability to employ sophisticated counterfactual reasoning and provide a behavioural framework that illustrates how market competition can improve aggregate performances in the game. Contradictory to the conventional wisdom, I find that market competition exacerbates aggregate performances and diverts decision rights to players who are less able to utilise them. I provide some evidence that the failure of markets can be linked to the formation of price “bubbles”, which distort the markets’ allocation of decision rights.

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