Validating Models for Bounded Rationality and Decision Biases in a Newsvendor Experiment

A number of experimental newsvendor studies have shown that human subjects make decisions which coincide with a “pull-to-center” effect. In general, three behavioral theories have been proposed in the literature to explain this behavior: bounded rationality, mean anchoring, and minimizing ex post inventory regret. Unfortunately, these models generate similar predictions under symmetric demand distributions commonly used in newsvendor experiments, such as uniform or normal, and have thus remained as three equally plausible models for newsvendor decisions. In this study, we employ a simple experimental design with asymmetric demand distribution, which allows us to directly tease out these three explanations. Our results suggest that bounded rationality is useful in explaining variability in decisions, but it is inconsistent with average choices. We follow this by incorporating the mean anchoring and ex post inventory regret biases into the bounded rationality model, and find that the mean anchoring bias model cannot account for decisions. However, we do observe that the ex post inventory regret bias, when incorporated with bounded rationality, can consistently explain newsvendor decisions.