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Gain and Pain: Consumers Central Expectations and Market Rationality (Re)Interpreting the findings Yoonhee Tina Chang, University of Bath Catherine Waddams, CCP
Consumers and Competition Policy Growing interest in consumer behaviour to discipline markets Informational remedies even when adverse effect on supply side How does consumer activity in markets respond to their prior expectations? Are those expecting high gains and low search/switch costs more active? What else affects their search and switching levels?
Uniquely we use consumers own estimates of expected gain/costs How much is the most you think you could save if you shopped around for...? How much of your own time would it take to find information to decide whether and to whom to switch? Once you have found all the necessary information to choose a new supplier, how much of your own time would it take to switch? These provide central estimates How important is the consumers confidence in that estimate (variance, not directly measured)?
Testing market rationality? Not a test of individual rationality, i.e. whether consumer behaviour is internally consistent, since comparing across different consumers Except comparison of activity across different markets: do consumers use different trade off between gain and pain in different markets? But for given expected costs and benefits, what determines whether a consumer will search and switch? Do these factors indicate that variance of estimates is important (not measured directly)? What are the policy implications?
1.Motivation 2. Context and Relation to other studies 3. Model, Survey and descriptive statistics 4. Results 5. Conclusions and Policy Implications
Context and relation to literature Two strands: Consumers maximise their own utility subject to limitations of time and understanding (bounded rationality)? Simon (1991) Ellison (2005); but may be non rational, unstable preferences? (DellaVigna, 2007; Rottemberg, 2008) For market and policy may be enough that in aggregate consumers behave as if rational - Role of search and switching costs (Klemperer 1995, Farrell and Klemperer, 2006); implications for firms responses, competition policy (Garrod et al., 2008)
Relation to empirical evidence Consumer demographics used as proxies for search and switching costs; gains based on potential savings available in market e.g. Giulietti et al. (2005) – we have direct estimates and the characteristics so can separate out effects Switching costs greater than search costs: Sturluson (2003) Swedish electricity; Giulietti et al.(2005) UK gas Across markets large differences in interest are not captured by demographic variables: Pomp et al (2005)
3. Model, Survey and descriptive statistics Searching and switching each a (different) function of: expected gain; + anticipated time spent searching and switching; -, - All as estimated by respondents & relation between these (dependent on income which affects value of time and money) - High refusal rate for income, so use as surrogates education - and age U shaped
Other Variables affecting activity Other demographics: gender? Attitudes: importance of trusting supplier - market knowledge+ Experience: switched in other markets (in survey)+ Market Dummies: advertising? certainty of estimates?
Choosing households, identifying activity 2027 representative adults interviewed face to face in homes using quota sampling in 2005 Identified those who bought each of 10 products, Do you have a choice of supplier in your region? Are you singly or jointly responsible for choosing supplier? If so: In the last three years have you: Looked around for a new provider? Switched provider, apart from moving home?
Gain and Pain Revisited How much is the most you think you could save if you shopped around for...? How much of your own time would it take to find information to decide whether and to whom to switch? Once you have found all the necessary information to choose a new supplier, how much of your own time would it take to switch? Last two derived from realised time compared to their expectations for those who had searched and switched
Demographics, Attitudes and Experience Demographic information: age, gender, education Attitudes: How important is to you to trust your supplier for each product? Savvy if knew no choice of provider for piped water supply Experience: if switched in other (of our) markets
Consumer awareness/activity across markets % MarketAwareSearchedSwitched Average Electricity Mobile Fixed line84148 Calls Broadband Car insurance Mortgage Current account9385 Consistent with national picture
Gains (£/month) and pain (hours) MarketExpect gains Expected search time Expected switch time Average Electricity Mobile Fixed line Calls Broadband Car insurance Mortgage Current account With large variations
4. Modelling & Results: practicalities/ summaries Modelled as simultaneous decision to search and switch, conditioned on awareness of choice High correlation between exsetime and exswtime means couldnt be used together: used exsetime for search; exsewtime for switching part of the equation Diagnostics: *, **, *** 10%, 5% 1%
(i) direct gain/pain trade off Consumers who expect higher gains, lower search/switch time, are more likely to be active; Education no direct effect, U-shaped age curve as expected An extra hour switching deters more than searching
(ii) Demographics, attitudes and experience Default: female, not savvy, trust not important, not switched For this group, females are more active; others do not affect joint searching and switching on their own
(iii) Market dummies, relative to electricity Holding everything else constant, consumers trade off gain and pain differently in different markets. More confident of their central estimates in some markets than others? Advertising effect? (Insurance has an annual contract/reminder)
(iv) Interaction terms: Confidence matters For older people, gain more important: experience For mortgages, more gain means(even)less activity: uncertainty For savvy, men & better educated, switching in other markets increases activity: confidence in estimates For those who believe it is important to trust supplier, more knowledgeable and men are more likely to switch: confidence?
5. Conclusions The only test of individual (ir)rationality is from the difference between markets: more likely to be due to different confidence in central estimates Whatever individual rationality, the market appears rational: higher expected gains and lower expected time searching and switching means more activity, when these expectations are directly measured Other factors seem to matter much more independently of their effect on expected gains and costs. We interpret these as affecting an individuals confidence in her own estimates of expected values: Could we confirm through other tests? (We know full post code and occupation) Is there an alternative hypothesis?
Policy Implications ~ To increase activity authorities should: Increase expected gains and lower expected time to search and switch across consumers Particularly lower expected switch time Nudge through annual reminders But more importantly, increase confidence Exploit experience of switching in some markets Increase education about markets in general Provide more information about particular markets