14127_lec2_pt2

14127_lec2_pt2 - 14.127 Behavioral Economics(Lecture 2...

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14.127 Behavioral Economics (Lecture 2) Xavier Gabaix February 12, 2004

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0.1 Cumulative PT Remind from last lecture: for continuous gambles with distribution f ( x ) EU gives: V = Z + −∞ u ( x ) f ( x ) dx, PT gives: V = Z + 0 u ( x ) f ( x ) π 0 ( P ( g x )) dx + Z 0 −∞ u ( x ) f ( x ) π 0 ( P ( g x )) dx
Alternatively, we can write it as Riemann-Stieltjes integral V = Z + 0 u ( x ) (1 P ( g<x )) + Z 0 −∞ u ( x ) ( P ( g x )) This simpli f es to PT for two outcome gambles. Indeed, it is self- evident in the Riemann-Stieltjes form.

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1T h e e n d o w m e n t e f ect — a consequence of PT Lab experiment, Kahneman, Knetsch, Thaler, JPE 1990. Half of the subjects receives an MIT apple, and the other half receives \$10. Then willingness to pay WTP for the apple is elicited from subjects with money, and willingness to accept WTA is elicited from subjects with mugs. In EU we have WTP = WTA (modulo wealth e f ects, which are small)
In simpli f ed (linear) PT value getting an apple and lose \$ x is V = u (apple) + u ( x )= A λx (note–there are mental accounting ideas plugged in here that is we process apple and money on separate accounts). Thus, in PT, one accepts when A λx 0 so that WTA = A λ . In simpli f ed (linear) PT value losing an apple and gaining \$ x is V = u ( apple) + u ( x λA + x

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(note, once more time we process apple and money on separate ac- counts). Thus, in PT, one pays when λA + x 0 so that WTP = λA. Thus, PT gives stability to humane life, a status quo bias.
1.1 Endowment e f ect experiment with mugs Classroom of one hundred. Fifty get the mug, f fty get \$20.

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This note was uploaded on 12/26/2011 for the course ECON 14.127 taught by Professor Staff during the Fall '10 term at MIT.

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14127_lec2_pt2 - 14.127 Behavioral Economics(Lecture 2...

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