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Biased Belief Equilibrium

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<mark>Journal publication date</mark>1/05/2020
<mark>Journal</mark>American Economic Journal: Microeconomics
Issue number2
Number of pages40
Pages (from-to)1-40
Publication StatusPublished
Early online date23/02/19
<mark>Original language</mark>English


We investigate how distorted, yet structured, beliefs can persist in strategic situations. Specifically, we study two-player games in which each player is endowed with a biased-belief function that represents the discrepancy between a player’s beliefs about the opponent's strategy and the actual strategy. Our equilibrium condition requires that: (1) each player choose a best-response strategy to his distorted belief about the opponent's strategy, and (2) the distortion functions form best responses to one another. We obtain sharp predictions and novel insights into the set of stable outcomes and their supporting stable biases in various classes of games.