Information cascades in Marketing, Finance, and Business
We know that an information cascade is when each individual makes choices based on the choices of others while ignoring his own personal information. When we are in a cascade, their is a point where no new information is added. This is because individuals just imitate others based on the premise that a large number of people cannot be wrong. This can be very erroneous that can have huge consequences. The article also talks about how cascades can be fragile in the sense that a precise information source can directly change the actions of individuals and reverse the direction of the cascade. The article provides real world examples where cascades occur.
In marketing, cascades arise from the information surrounding a product or service. We see that this happens in online product reviews. People generally tend to listen to what other people say about the product than trying it out themselves. If a product has great reviews by thousands of reviewers, than people are most likely going to buy the product since so many other people have bought the product and left great reviews. They would think that there cannot be anything wrong with the product or else no one would be buying it, leading to a cascade of buyers without them doing further research.
In business management, companies want to imitate what other companies are doing. For example, one company starts giving out discounts, then competitors will follow based on the fact that they don’t want to trail behind their competitors. If competitors are doing something different, a company might think that they have better information on consumer behavior or recent trends, leading to a cascade of companies in an industry doing the same thing.
In finance, people want to follow top stock investors and ignore doing their own research. People generally think that financial pundit knows more information about stocks than they do. In this case, people who don’t know much about the stock market have little information in their decision making process. Even if they have knowledge on stocks, if a lot of people are buying a particular stock, they will think that those people know something they don’t. People investing in the same stocks as top investors leads to a cascade of people all buying the same stock.
The applications of information cascades in real world situations relates to what we discussed in class about information cascades. We used Bayes’ rule to determine what the next person should do given the observation of previous individuals. In real world situations, the large scale of people doing the same thing results in a very high probability that the next individual should do the same thing no matter what information that individual has. In class, we used a simple example where there are only two choices to choose from which only required a difference of 2 between the two choices. In reality, there would be many more choices which means we would need a sufficient number of people choosing the same thing in order for the cascade to start. Also, we learned in class that cascades can be wrong. This can be detrimental especially in the stock market, causing people financial trouble in the long run. We also discussed that cascades form from very little information. In the examples above, people or companies are not using their own information but rather the information they get from observing others.
https://www.investopedia.com/articles/investing/052715/guide-understanding-information-cascades.asp