Observation Bias: The Impact of Demand Censoring on Newsvendor Level and Adjustment Behavior

25 Pages Posted: 1 Nov 2010 Last revised: 12 Dec 2011

See all articles by Nils Rudi

Nils Rudi

INSEAD - Technology and Operations Management

David Drake

University of Colorado at Boulder - Leeds School of Business

Date Written: December 12, 2010

Abstract

In an experimental newsvendor setting we investigate three phenomena: Level behavior ― the decision-maker's average ordering tendency; adjustment behavior ― the tendency to adjust period-to-period order quantities; and observation bias ― the tendency to let the degree of demand feedback influence order quantities. We find that the portion of mismatch cost due to adjustment behavior exceeds the portion of mismatch cost due to level behavior in three out of four conditions. Observation bias is studied through censored demand feedback, a situation which arguably represents the majority of newsvendor settings. When demands are uncensored, subjects tend to order below the normative quantity when facing high margin and above the normative quantity when facing low margin, but in neither case beyond mean demand (a.k.a. the pull-to-center effect). Censoring in general leads to lower quantities, magnifying the below-normative level behavior when facing high margin but partially counterbalancing the above-normative level behavior when facing low margin, violating the pull-to-center effect in both cases.

Suggested Citation

Rudi, Nils and Drake, David, Observation Bias: The Impact of Demand Censoring on Newsvendor Level and Adjustment Behavior (December 12, 2010). INSEAD Working Paper No. 2010/92/TOM, Harvard Business School Technology & Operations Mgt. Unit Working Paper No. 12-042, Available at SSRN: https://ssrn.com/abstract=1699751 or http://dx.doi.org/10.2139/ssrn.1699751

Nils Rudi (Contact Author)

INSEAD - Technology and Operations Management ( email )

Boulevard de Constance
77 305 Fontainebleau Cedex
France

David Drake

University of Colorado at Boulder - Leeds School of Business ( email )

Boulder, CO 80309-0419
United States

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