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Summer 2003 CalBusiness  
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New Faculty Bring Fresh Ideas in Marketing, Pricing, and Decision-Making to Haas

Six new faculty joined the Haas School in the 2002-2003 school year. Three of them, Pino Audia, Laura Kray, and Thomas Davidoff, were featured in the previous issue of CalBusiness. In this issue, we feature Teck Ho, John Morgan, and Jose Silva.

Ho Draws on Chinese Philosophy for Western Business

Trained in decision sciences, marketing professor Teck Ho borrows from the timeless principles of Chinese philosophy and the systematic experimentation in game theory to illustrate how today’s managers can gain from the strategic analysis of their own and their competitor’s situations.

Ho joined the Haas School last fall as the William Halford, Jr., Family Chair in Marketing. His research focuses on strategic decision-making, retail management, and new product development.

As Sun Tzu wrote in The Art of War 2400 years ago: “One who knows the enemy and knows himself will not be endangered in a hundred engagements.” Taking the art of war to the battles of business, Ho presumes that people who can forecast what others will do can always beat the competition.

“To the Chinese, knowledge is the ability to trace out or unravel a strategic situation,” says the native Singaporean, whose work examines the application of game theory to competitive strategy. Using a series of simple games, Ho teaches managers about the optimal decision-making behavior to improve firms’ decision-making ability in competitive situations, such as price setting and market entry. The optimal choice, he says, depends on the individual’s best guess of others’ reasoning ability and likely action. The ability to forecast others’ behavior can be learned, Ho has found.

In one of Ho’s strategy games, he offers a $20 prize to the individual who can pick the number between 0 and 100 that is closest to the average number picked by its group and then multiplied by 0.7. Ho selects groups to comprise individuals with a similar “strategic IQ” (based on profession and level of education), such as a group of CEOs or a group of Ph.D. students. Ho has found that the levels of reasoning vary across profession, education levels, and culture. This and similar strategic games allow Ho both to collect data on players’ behaviors in competitive situations and to teach managers to analyze their own strategic options and those of their competitors.

Ho and fellow Haas professors Barbara Mellers and John Morgan, together with Nobel Laureate George Akerlof of the economics department, are planning to set up a behavioral lab that will allow for the systematic analysis of behaviors in competitive situations.

Ho is also interested in improving managerial decision-making in retail and new product development. For example, he studies how supermarkets set price format, determine traffic, and manage shelf space to ultimately lead to more traffic and more purchases. He has developed a model drawing on consumers’ previous purchases, price factors, features (advertising), and special displays that has served as an effective predictor in this area. The model helps supermarket managers to offer the right assortment at the right price to maximize a store’s profits.

Ho earned his undergraduate degree in electrical engineering and a master’s degree in computer and information science at the National University of Singapore. He also received a master’s and a Ph.D. in decision science from Wharton.

Morgan Tracks Peculiarities in Internet Pricing

Conventional wisdom has it that competition and transparency made possible by the Internet will allow only low-price firms to survive. However, John Morgan, who joined the Haas School last fall as associate professor in Economic Analysis & Policy, has found that price dispersion on the web is driven more by the incentives of intermediaries—the so-called information gatekeepers—than by the forces of perfect competition.

Morgan has followed price dispersion trends in homogeneous markets on the Internet since 1998, when he was assistant professor of economics and public policy at Princeton University’s Woodrow Wilson School. He has since held a one-year fellowship at the Hoover Institution at Stanford University before arriving at the Haas School this fall.

Morgan has found that comparative shopping web sites, such as Shopper.com, have an incentive to encourage price dispersion in order to justify their existence. As a result, the fee structures for the vendors who are paying to display their products on these comparative sites encourage price differences for identical products. He also found that price dispersion depends on the “thickness” of the market. That is, the more sellers in a market, the less dispersion there is, and vice versa.

When Morgan is not studying price dispersion on the Internet, he examines the flow of information in an organization. “There is an increasing division of labor between those making the decisions and those with specialized knowledge,” says Morgan. “Designing information flows between decision makers and experts is obviously tremendously important in today’s economy.”

“Balance pays,” concludes Morgan. Since it is safe to assume that all advisors have their own agendas or incentives, Morgan found the most effective advisory committee to consist of two individuals with opposite views and equally limited loyalty to the CEO. The competition between the two creates a greater flow of information.

If there is only one advisor, Morgan has found that a face-to-face interaction, as opposed to a written report, is most beneficial. The input from the decision maker, even if he/she has no additional knowledge to offer the advisor, creates ambiguities that encourage greater information exchange.

In all his research Morgan has found great value in testing economic principles in lab experiments. “Experiments have increasingly become an important tool to evaluate policy suggestions to solve social policy problems, such as the selling of spectrum rights through auctions, because economic theories have been imperfect predictors of human behavior,” he says. “We don’t know when we get it right and when we don’t. It behooves theorists to test their theories in lab experiments.”

Morgan received his undergraduate degree in economics from the Wharton School at the University of Pennsylvania and his Master’s and Ph.D. from Pennsylvania State University.

Silva Studies Science of Decision Making

Assistant Professor José Camões Silva brought his expertise in behavioral economics to the Haas School when he joined the marketing group last fall.

Silva’s work focuses on integrating psychological phenomena with models of decision-making and strategic behavior. His latest research revolves around how payment methods affect consumption of online content. An extension of that work focuses on the willingness of individuals to make voluntary contributions for content they like.

Silva and his co-author, Dan Ariely, former Haas assistant professor of marketing now at MIT, found that when purchasing content online consumers in many cases perceive the very transaction of making a payment online as a higher cost than the purchase price itself. In the case of small payments, if one were to place a monetary value on this transaction, Silva and Ariely estimated it to be equivalent to a 47% price increase.

On the other hand, the use of electronic wallets, or pre-payment, has the opposite effect—people who deposit money in the wallet in advance act as if they received a 30% price discount.

This work prompted Ariely and Silva to develop a managerial framework for taking into account psychological phenomena when measuring prices online.

In a separate study, Silva examined how to price content distributed through the web and other interactive media (e.g., compact discs with digital rights-management encryption). Content providers face a dilemma: consumers only know for sure what they would be willing to pay for an article after they have read it. But, at that point they have no incentive to pay for it—the consumption is done and the seller cannot remove it.

Sellers have approached the problem of monetizing content in different ways: they can sell access to the consumers to advertisers (known as “selling eyeballs”); they can share revenues from the broadband provider (used by ISPs in many European countries, where local phone service is metered); they can sell goods that are tied in with the content provided for free (“Like this site? Buy a T-shirt”); or, in the case of well-established sources of information, sell the content.

Silva uses tools from behavioral economics to analyze a fifth alternative: reliance on voluntary payments. Many web sites now sport the “Amazon Honor System” icon for voluntary contributions. Silva’s research studies when each of the five approaches described above should be used and makes managerial recommendations based on reputation, market size, and uncertainty.

Underlying all these applications is Silva’s award-winning original research on the foundations of behavioral decision-making. His doctoral work at MIT theorized on why people make inconsistent choices.

Starting with the idea that people are always trying to do the best they can with limited mental resources, Silva showed that many inconsistencies in decision-making and choice are the result of people optimizing their decisions over large groups of problems. This results in their not being discerning enough with each individual decision.

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John Morgan, Jose Silva, and Teck Hua Ho
John Morgan, Jose Silva, and Teck Hua Ho were among the six new faculty members to join the Haas School in the fall of 2002.
 
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