Individual Choice Behavior:

Presentation effects present a different kind of challenge to

theories of choice based on preferences, since they suggest
that choices between two alternatives may depend on how
the decision is presented or “framed” (and not merely on
the properties of the alternatives). That is, they suggest that
there may not necessarily be any underlying preferences
that are tapped when we ask a question or demand a choice.
Instead, sensitivity of choices to how they are “framed” can
be interpreted as suggesting that different “frames” elicit
different psychological choice processes, and these may
result in different choices.

Kahneman and Tversky developed a big class of such

demonstrations. The examples below were collected in

Thaler, Richard “The Psychology of Choice and the

Assumptions of Economics,” in A.E. Roth, editor,
Laboratory Experimentation in Economics: Six Points of
View,” Cambridge University Press, 1987.

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Problem 4. Which of the following options do you prefer?
A. A sure win of $30 [78%]
B. An 80% chance to win $45 [22%]

Problem 5. Consider the following two-stage game. In the

first stage, there is a 75% chance to end the game without
winning anything and a 25% chance to move into the
second stage. If you reach the second stage you have a
choice between

C. A sure win of $30 [74%]

D. An 80% chance to win $45 [26%]

Your choice must be made before the game starts, that is,
before the outcome of the first-stage game is known. Please
indicate the option you prefer.

Problem 6. Which of the following options do you prefer?

E. A 25% chance to win $30 [42%]
F. A 20% chance to win $45 [58%]
[Source: Tversky and Kahneman, 1981]

We might have expected subjects to treat problems 5 and 6

as equivalent, but they come much closer to treating
problem 5 as equivalent to problem 4. (So this might be a
presentation effect [a “pseudo-certainty effect in problem
5], or perhaps a compound lottery effect.)

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Problem 7. Imagine that you face the following pair of
concurrent decisions. First examine both decisions; then
indicate the options you prefer:

Decision (i). Choose between

A. A sure gain of $240 [84%]
B. 25% chance to gain $1,000
and 75% chance to lose nothing` [16%]

Decision (ii). Choose between

C. A sure loss of $750 [13%]
D. 75% chance to lose $1,000
and 25% chance to lose nothing [87%]

[Source: Tversky and Kahneman, 1981]

Problem 8. Choose between

E. 25% chance to win $240
and 75% chance to lose $760 [0%]

F. 25% chance to win $250

and 75%chance to lose $750 [100%]

[Source: Tversky and Kahneman, 1981]

But E = A&D and F = B&C

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mental accounting

Problem 9. Imagine that you are about to purchase a

jacket for ($125)[$15] and a calculator for ($15)[$125].
The calculator salesman informs you that the calculator you
wish to buy is on sale for ($10)[$120] at the other branch of
the store, a 20-minute drive away. Would you make the trip
to the other store?
[Source: Tversky and Kahneman, 1981]

Problem 10. Imagine that you have decided to see a play,

admission to which is $10 per ticket. As you enter the
theater you discover that you have lost a $10 bill. Would
you still pay $10 for the ticket to
the play?

Yes: 88% No: 12%

Problem 11. Imagine that you have decided to see a play

and paid the admission price of $10 per ticket. As you enter
the theater you discover that you have lost your ticket. The
seat was not marked and the ticket cannot be recovered.
Would you pay $10 for another ticket?

Yes: 46% No: 54%

[Source: Tversky & Kahneman, 1981]

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 sunk costs

Problem 12. You have tickets to a basketball game in a

city 60 miles from your home. On the day of the game
there is a major snow storm, and the roads are very bad.
Holding constant the value you place on going to the game,
are you more likely to go to the game (1) if you paid $20
each for the tickets or (2) if you got the tickets for free?
[Source: Thaler, 1980]

This has been replicated fairly cleanly in an

experiment (Arkes and Blumer, ’85) in which season ticket
holders to a campus theater group were randomly divided
into two groups, one of which was given a refund on part of
the price of the tickets. This group attended the first half of
the season less regularly than the control group, which
received no refund.

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 The relationship between time of payment and
consumption is further explored in
Gourville, J.T. and Soman, D. (1998). "Payment
Depreciation: The Behavioral Effects of Temporally
Separating Payments from Consumption." Journal of
Consumer Research, 25 (September), 160-174.

Gourville and Soman look at participation rates of

health club members as a function of when their twice-
yearly dues come due. The fact that participation is highest
in the month following billing supports the general
contention that consumption of services is in part a function
of when they were paid for.
(This is also a phenomenon first explored through
hypothetical questions.)

See also
Stefano DellaVigna and Ulrike Malmendier, “Paying Not to
Go to the Gym”, American Economic Review, June 2006,
vol. 96 (3), pp. 694-719.

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There is a large literature on intertemporal choices.

Which would you prefer:

$10 today, or $15 in 2 weeks?

$10 in 50 weeks or $15 in 52 weeks?

Laibson and Rabin are two of the names associated with the
burgeoning literature on modeling time preferences as
hyperbolic rather than exponential, i.e. as

U = U0 + βΣδtut
(summing over discounted future utilities received at times t
= 1 to infinity)
instead of the more conventional (stationary over time)
exponential formulation
U = U0 + Σδtut

A good deal of thoughtful work has gone into drawing out

the differences to be expected between rational and irrational
hyperbolic discounters, a distinction based on whether they
correctly anticipate their future preferences…

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Preferences over other complex domains (not just gains and
losses); e.g. preferences for fairness.

Problem 13. You are lying on the beach on a hot day. All
you have to drink is ice water. For the past hour you have
been thinking about how much you would enjoy a nice cold
bottle of your favorite brand of beer. A companion gets up
to make a phone call and offers to bring back a beer from
the only nearby place where beer is sold (a fancy resort
hotel)[a small, rundown grocery store]. He says that the
beer may be expensive and so asks how much you are
willing to pay for it. He says that he will buy the beer if it
costs as much as or less than the price you state, but if it
costs more than the price you state he will not buy it. You
trust your friend and there is no possibility of bargaining
with (the bartender)[the store owner]. [Source:Thaler, ‘85]

Problem 14. If the service is satisfactory, how much of a

tip do you think most people leave after ordering a meal
costing $10 in a restaurant that they visit frequently?

Mean response: $1.28

Problem 15. If the service is satisfactory, how much of a

tip do you think most people leave after ordering a meal
costing $10 in a restaurant that they do no expect to visit
again?

Mean response: $1.27

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 One attempt to summarize a number of observed or
hypothesized regularities was Kahneman and Tversky’s
Prospect Theory (1979, Econometrica).

(See also the updated version,

Tversky, Amos, and Daniel Kahneman. "Advances in Prospect
Theory: Cumulative Representation of Uncertainty." Journal of
Risk and Uncertainty 5 (1992): 297-323)

Prospect Theory posits both a nonlinear “value function”

that scales different monetary payoffs, and a nonlinear
“weighting function” that scales different probabilities.

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 Prospect Theory

$x

Evaluate Lotteries at
∑ Π(px) v (x) instead of
∑ px u (x)
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• Distinctive Fourfold Pattern Summarized by CPT:
(1) risk-seeking over low-probability gains
(2) risk-aversion over low-probability losses
(3) risk-aversion over high-probability gains
(4) risk-seeking over high-probability losses

• Reflection of risk attitude: low and high probability

loss and gain

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As prospect theory has become better known, it has
also started to attract the kind of critical attention
from experimenters that utility theory has attracted.

Let’s look quickly at two of these.

Harbaugh, Krause, and Vesterlund (2002), “Prospect

Theory in Choice and Pricing Tasks,” working paper

HK&V report that the predictions of prospect theory

are sensitive to the way the questions are asked.

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 Gambles examined in HK&V’s study:

Table 1: The Six Prospects

Prospect Expected FFP

Prob. Payoff
Number Value Prediction
1 .1 +$20 $2 Seeking

2 .4 +$20 $8 Neutral

3 .8 +$20 $16 Averse

4 .1 -$20 -$2 Averse

5 .4 -$20 -$8 Neutral

6 .8 -$20 -$16 Seeking

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 Experimental Procedure:
- Probability presented both by spinner and as probability

- Elicitation:
(1) Choice-based procedure (Harbaugh et al., 2000).
• chose between gamble and its expected value

(2) Price-based procedure

• Report maximum willingness to pay
o to play a gamble over gains
o to avoid playing a gamble over losses.
• BDM procedure to determine whether subjects
get risky prospect or pay the randomly
determined price to play the gamble (gain), or
avoid the gamble (loss)

- Participants: 96 college students

o 64 use the choice method first and price method second
(choice-subjects)
o 32 use the price method first and choice method second
(price-subjects)

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How much would you pay to avoid playing this game?

50% -$0 50% -$20

SAMPLE

No Spin,
- $10 50% -$20
50% -$0

SAMPLE

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- Risk Attitudes of Price-subjects in the Price Task
Round 1 Decisions (N=32)

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 Risk Attitudes of Choice-subjects in the Choice Task (N=64)

So HK&V find they can reverse prospect theory’s

fourfold pattern of risk attitudes for high and low
probabilities and gains and losses.

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Similarly, Ralph Hertwig, Greg Barron, Elke U.
Weber, and Ido Erev, in a recent working paper
called Decisions From Experience and the Effect
of Rare Events, look at choices over gambles in
three conditions, which they call

• Description: “The Description condition is the

condition used by Kahneman and Tversky. The
subjects were presented with a description of the
problems (as described above) and were asked to state
which gamble they prefer in each problem.”

• Feedback: “In the Feedback condition, the

participants did not see the description of the relevant
gambles. Rather, the participants were presented with
two unmarked keys and were told that in each trial of
the experiment they can select one of the two keys.
Each selection led to a draw from the keys payoff
distributions (a play of the relevant gambles).”

• Sampling: “In the Sampling condition the

participants were told that their goal is to select once
between two gambles. They were not presented with a
description of the gambles, but were allowed to
sample as many time as they wish the relevant payoff
distributions. Thus, like the Feedback condition they
had to make decisions from experience, but like the
Description condition they had to make a single
choice.”

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 HBW&E also find that CPT’s overweighting
of small probabilities and underwaiting of
large probabilities occurs only in the
description condition.

Problem 1: Choose between:

Option Outcome and Descript Feedback Sampling

likelihood ion
H 4 with probability 0.8; 35% 65% 88%
0 otherwise
L 3 for sure

Problem 2: Choose between:

Option Outcome and likelihood

H 4 with probability 0.2; 0 68% 51% 44%
otherwise
L 3 with probability 0.25;
0 otherwise

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So, there are systematic departures from simple models of
rational choice. But it is hard to find general descriptive
models. The same tools used to show that e.g. utility
theory isn’t a general description seem to work well on
prospect theory too.

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