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Behavioral Econ- Bounded Rationality
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Terms in this set (40)
Limitations of Expected Value
only numerical outcomes, assumes people are risk neutral
Expected utility axioms
Completeness, Transitivity, Archimedean, Independence
Completeness
person has a complete set of preferences over all choices
Transitivity
If A is better than B and B is better than C, then A > C
Archimedean
(betweenness) you can make a probability mixture of a better and worse bundle to get a bundle in between
Independence
if you prefer A to B, then you prefer A mixed with something more than B mixed with the same thing
Straight line EU function
risk neutral, you are indifferent between a gamble and a sure amount (same as Expected Value)
Concave EU function
Risk averse (diminishing marginal utility of wealth)
Convex EU function
Risk seeking
Certainty Equivalent
amount of $ such that you are indifferent between playing the gamble and receiving CE for sure
Risk Premium
Difference between certainty equivalent and expected value
Describe the Prospect Theory Value Function
Concave in gains quadrant- risk averse, convex in losses quadrant- risk seeking
Reflection Effect in PT
Putting a (-) sign in front of outcomes can flip preferences
In most cases, people are ____ for gains, and ____ for losses
risk averse, risk seeking
Loss Aversion
losses loom higher than gains, symmetric bets are unattractive
The loss quadrant in the PT value function is steeper than in the gains department, indicating...
loss aversion
Probability weighting function
people overweight low probabilities and underweight high probabilities
Disposition effect explained by...
reflection
Endowment effect explained by...
loss aversion
Downward sloping labor supply explained by...
loss aversion
asymmetric price elasticity explained by...
loss aversion
long shot bias explained by...
probability weighting
End of the day effect explained by...
reflection
Lotteries explained by...
probability weighting
Default bias explained by...
loss aversion
Putting in golf explained by...
reflection
Reasons people are risk averse
Diminishing marginal utility (concave root function), probability weighting, loss aversion
focusing illusion
if you ask a person a question about a specific aspect of their life and then ask them about their happiness level, the person will focus on the aspect of your life that you brought up and base their happiness level off that
Easterlin Paradox findings
Wealthy countries aren't happier than poor countries, as a country gets wealthier it doesn't get happier, within a country wealthier people are happier
If you have two losses would a hedonic editor want to segregate them or integrate them?
integrate losses
If you have two gains would a hedonic editor want to segregate them or integrate them?
segregate gains
If you have a large gain and a small loss, would a hedonic editor want to segregate them or integrate them?
integrate large gain small loss
What is a nudge?
the way a choice is presented, a question is framed, or default options all influence the way people choose
Libertarian- Paternalism
Paternalistic because it helps people who make mistakes but libertarian because it doesn't deny anyone of the choice
Expected Value (concept)
average payoff if you repeat the decision many times
Expected Value takes two things into account:
possible outcomes associated with the choice, the probability that each of these outcomes will occur
Difference between expected value and expected utility
Expected value measures monetary payoffs, expected utility measures the benefit/pleasure you recieve
Difference between expected utility and prospect theory
EU is based off final wealth states, PT considers changes from your present wealth state
Reflection Effect
putting a (-) sign in front of a gamble flips preferences
Why are Loss Aversion and Risk Aversion distinct concepts?
if loss aversion was just risk aversion you would have to deny very attractive bets
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