David Hirshleifer and Ivo Welch
This paper examines the effect of memory loss on the continuity of behavior. We consider a player (individual or firm) who remembers previous actions but not underlying rationales. In a stable environment, relative to a full-recall scenario, memory loss increases the probability of following old policies (inertia). In a volatile environment, memory loss can decrease this probability (impulsiveness). The model provides a memory-loss explanation for some documented psychological biases, implies that inertia and organizational routines should be more important in stable environments than in volatile ones, and provides empirical implications relating memory and environmental variables to economic decisions.