This paper discusses the use of bounded rationality in industrial organization. There is a
long tradition of such work: literatures from various decades have discussed irrationalities by
firms and consumers. Three main approaches are found in the recent literature: rule-ofthumb
papers specify simple rules for behavior; explicit bounds papers consider agents who
maximize payoffs net of cognitive costs; the psychology and economics approach typically
cites experimental evidence to motivate utility-like framworks. Common to each recent …

Conventional economic theory assumes that consumers are fully rational, that they have
well-defined preferences and easily understand the market environment. Yet, in fact,
consumers may have inconsistent, context-dependent preferences or simply not enough
brain-power to evaluate and compare complicated products. Thus the standard model of
consumer behavior-which depends on an ideal market in which consumers are boundlessly
rational-is called into question. While behavioral economists have for some time confirmed …