Working Paper | HBS Working Paper Series | 2015

Experimental Evidence on Decision Making Under Information Asymmetry

by William Schmidt and Ryan W. Buell

Abstract

We provide experimental evidence on how individuals make decisions in an operations management setting when there is information asymmetry among the participants. Common equilibrium assumptions yield the least cost separating outcome as the unique equilibrium. In this equilibrium, the more informed party undertakes a costly signal to resolve the information asymmetry that exists. Our experimental results provide evidence that participants are unlikely to choose to separate when a pooling equilibrium is also available. This result is important for research and practice because separating and pooling outcomes have divergent implications. We also show that pooling choice behavior is influenced by changes in the underlying newsvendor model parameters. In robustness tests, we show that choosing a pooling outcome is especially pronounced among participants who report a high level of understanding of the setting and that participants who pool are rewarded by the less informed party with higher payoffs. Finally, we demonstrate through a reexamination of Lai et al. (2012) and Cachon and Lariviere (2001) how pooling outcomes can substantively extend the implications of other extant signaling game models in the operations management literature.

Keywords: Decision Choices and Conditions;

Citation:

Schmidt, William, and Ryan W. Buell. "Experimental Evidence on Decision Making Under Information Asymmetry." Harvard Business School Working Paper, No. 15-001, July 2014. (Revised July 2015.)