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Money Illusion and Coordination Failure


Fehr, Ernst; Tyran, Jean-Robert (2004). Money Illusion and Coordination Failure. Working paper series / Institute for Empirical Research in Economics No. 177, University of Zurich.

Abstract

"Economists long considered money illusion to be largelynirrelevant. Here we show, however, that money illusion has powerfulneffects on equilibrium selection. If we represent payoffs in nominal terms,nchoices converge to the Pareto inefficient equilibrium; however, if we liftnthe veil of money by representing payoffs in real terms, the Pareto efficientnequilibrium is selected. We also show that strategic uncertainty about thenother players’ behavior is key for the equilibrium selection effects ofnmoney illusion: even though money illusi on vanishes over time if subjectsnare given learning opportunities in the context of an individual optimizationnproblem, powerful and persistent effects of money illusion are found whennstrategic uncertainty prevails."

Abstract

"Economists long considered money illusion to be largelynirrelevant. Here we show, however, that money illusion has powerfulneffects on equilibrium selection. If we represent payoffs in nominal terms,nchoices converge to the Pareto inefficient equilibrium; however, if we liftnthe veil of money by representing payoffs in real terms, the Pareto efficientnequilibrium is selected. We also show that strategic uncertainty about thenother players’ behavior is key for the equilibrium selection effects ofnmoney illusion: even though money illusi on vanishes over time if subjectsnare given learning opportunities in the context of an individual optimizationnproblem, powerful and persistent effects of money illusion are found whennstrategic uncertainty prevails."

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Additional indexing

Item Type:Working Paper
Communities & Collections:03 Faculty of Economics > Department of Economics
Working Paper Series > Institute for Empirical Research in Economics (former)
Dewey Decimal Classification:330 Economics
Language:English
Date:January 2004
Deposited On:29 Nov 2011 22:32
Last Modified:07 Dec 2017 10:08
Series Name:Working paper series / Institute for Empirical Research in Economics
ISSN:1424-0459
Official URL:http://www.econ.uzh.ch/wp.html

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