Much behavioral welfare economics assumes that expected utility theory does not accurately describe most human choice under risk. A substantial literature instead evaluates welfare consequences by taking cumulative prospect theory as the natural default alternative, at least where description is concerned. We present evidence, based on a review of previous literature and new experimental data, that the most empirically adequate hypothesis about human choice under risk is that it is heterogeneous, and that where EUT does not apply, more choice is (...) characterized by rank-dependent utility models than by CPT. Most of the apparently loss-averse choice behavior results from probability weighting rather than from direct disutility experienced when an outcome is framed as a loss against an idiosyncratic reference point. We then consider implications of this finding for methodological debates about how to model welfare effects of policies, and argue that abandonment of a dogmatic belief in CPT as the correct theory of risk human choice exposes a conceptual error that is widespread in behavioral welfare economics. We provide concluding reflections on second-order, philosophical issues around the grounding of normative commitments in policy-focused economics. (shrink)

A principal source of interest in behavioral economics has been its advertised contributions to policies aimed at ‘nudging’ people away from allegedly natural but self-defeating behavior toward patterns of response thought more likely to improve their welfare. This has occasioned controversies among economists and philosophers around the normative limits of paternalism, especially by technical policy advisors. One recent suggestion has been that ‘boosting,’ in which interventions aim to enhance people’s general cognitive skills and representational repertoires instead of manipulating their choice (...) environments behind their backs, avoids the main normative challenges. A limitation in most of this literature is that it has focused on relatively sweeping policy recommendations and consequently on strong polar alternatives of general paternalism and strict laissez faire. We review a real instance, drawn from a consulting project we conducted for an investment bank, of a proposed intervention that is more typical of the kind that economists are more often actually called upon to offer. In this example, the sophistication of current tools for preference attribution, combined with philosophical externalism about the semantics of preferences that makes it less plausible to attribute their literal self-conscious representation to people as propositional attitude content becomes more tightly refined, blocks applicability of the distinction between nudging and boosting. This seems to call for irreducible, context-specific ethical judgment in assessing the appropriateness of the forms of paternalism that economists must actually wrestle with in going about their everyday business. (shrink)

Nobody in this debate questions the point that neuroeconomics remains full of potential, and little else as yet. If so, that really is progress of sorts. I was getting afraid that we would have to open nominations for the Captain Ahab Award for obsessive work on the promotion of neuroeconomics.

We develop an extension of the familiar linear mixed logit model to allow for the direct estimation of parametric non-linear functions defined over structural parameters. Classic applications include the estimation of coefficients of utility functions to characterize risk attitudes and discounting functions to characterize impatience. There are several unexpected benefits of this extension, apart from the ability to directly estimate structural parameters of theoretical interest.

If someone claims that individuals behave as if they violate the independence axiom when making decisions over simple lotteries, it is invariably on the basis of experiments and theories that must assume the IA through the use of the random lottery incentive mechanism. We refer to someone who holds this view as a Bipolar Behaviorist, exhibiting pessimism about the axiom when it comes to characterizing how individuals directly evaluate two lotteries in a binary choice task, but optimism about the axiom (...) when it comes to characterizing how individuals evaluate multiple lotteries that make up the incentive structure for a multiple-task experiment. We reject the hypothesis about subject behavior underlying this stance: we find that preferences estimated with a model that assumes violations of the IA are significantly affected when one elicits choices with procedures that require the independence assumption, as compared to choices elicited with procedures that do not require the assumption. The upshot is that one cannot consistently estimate popular models that relax the IA using data from experiments that assume the validity of the RLIM. (shrink)

Understanding more about how the brain functionsshouldhelp us understand economic behaviour. But some would have us believe that it has done this already, and that insights from neuroscience have already provided insights in economics that we would not otherwise have. Much of this is just academic marketing hype, and to get down to substantive issues we need to identify that fluff for what it is. After we clear away the distractions, what is left? The answer is that a lot is (...) left, but it is still all potential. That is not a bad thing, or a reason to stop the effort, but it does point to the need for a serious reconsideration of what neuroeconomics is and what passes for explanation in this literature. I argue that neuroeconomics can be a valuable field, but not the way it is being developed and “sold” now. The same is true more generally of behavioural economics, which shares many of the methodological flaws of neuroeconomics. (shrink)

Evidence of risk aversion in laboratory settings over small stakes leads to a priori implausible levels of risk aversion over large stakes under certain assumptions. One core assumption in statements of this calibration puzzle is that small-stakes risk aversion is observed over all levels of wealth, or over a â sufficiently largeâ range of wealth. Although this assumption is viewed as self-evident from the vast experimental literature showing risk aversion over laboratory stakes, it actually requires that lab wealth be varied (...) for a given subject as one evaluates the risk attitudes of the subject. We consider evidence from a simple design that tests this assumption, and find that the assumption is strikingly rejected for a large sample of subjects from a population of college students. We conclude that the implausible predictions that flow from these assumptions do not apply to one specialized population widely used to study economic behavior in laboratory experiments. (shrink)

Does the desirability of social institutions for public goods provision depend on the extent to which they include mechanisms for endogenous enforcement of cooperative behavior? We consider alternative institutions that vary the use of direct punishments to promote social cooperation. In one institution, subjects participate in a public goods experiment in which an initial stage of voluntary contribution is followed by a second stage of voluntary, costly sanctioning. Another institution consists of the voluntary contribution stage only, with no subsequent opportunity (...) to sanction. In a third stage subjects vote for which institution they prefer for future interactions: do they prefer one that does allow sanctions or one that does not allow sanctions? Our results show that even though sanctions are frequently used when available, the clear majority of individuals vote for the institution that does not allow sanctions. Thus, a distinction is required between the principles that guide the choice of institutions and the principles that apply to actions guided by institutions. Our results indicate that it is the wealth generated by the institution that determines its desirability. (shrink)

We propose a method for estimating subjective beliefs, viewed as a subjective probability distribution. The key insight is to characterize beliefs as a parameter to be estimated from observed choices in a well-defined experimental task and to estimate that parameter as a random coefficient. The experimental task consists of a series of standard lottery choices in which the subject is assumed to use conventional risk attitudes to select one lottery or the other and then a series of betting choices in (...) which the subject is presented with a range of bookies offering odds on the outcome of some event that the subject has a belief over. Knowledge of the risk attitudes of subjects conditions the inferences about subjective beliefs. Maximum simulated likelihood methods are used to estimate a structural model in which subjects employ subjective beliefs to make bets. We present evidence that some subjective probabilities are indeed best characterized as probability distributions with non-zero variance. (shrink)

To understand how small business entrepreneurs respond to government policy one has to know their risk and time preferences. Are they risk averse, or have high discount rates, such that they are hard to motivate? We have conducted a set of field experiments in Denmark that will allow a direct characterization of small business entrepreneurs in terms of these traits. We build on experimental tasks that are well established in the literature. The results do not suggest that small business entrepreneurs (...) are more or less risk averse than the general population under the assumption of Expected Utility Theory. However, we generally find an S-shaped probability weighting function for both small business entrepreneurs and non-entrepreneurs, with entrepreneurs being more optimistic about the chance of occurrence for the best outcome in lotteries with real monetary outcomes. The results also point to a significant difference in individual discount rates between entrepreneurs and non-entrepreneurs: entrepreneurs are willing to wait longer for certain rewards than the general population. (shrink)

Psychologists can learn from the procedural conventions of experimental economics. But the rationale for those conventions must be examined and understood lest they become constraints. Field referents and the choice of heuristic, matter for behavior. This theme unites the fields of experimental psychology and experimental economics by the simple fact that the object of study in both cases is the same.

We question the behavioral premise underlying Ainslie's claims about hyperbolic discounting theory. The alleged evidence for humans can be easily explained as an artefact of experimental procedures that do not control for the credibility of payment over different time horizons. In appropriately controlled and financially motivated settings, human behavior is consistent with conventional exponential preferences.