Clare 1

• rational/value-based decision making


  - utility (choose highest outcome)

  - subjective

  - uncertainty (if x, how likely is y)
• subjective expected utility theory

  in making decisions, people will seek to increase highest outcome

  
  

  calculate expected utility of each option
• prospect theory (Kahneman & Tversky)


  make decisions based on potential gains and losses rather than on final outcomes

  
  

  people tend to be risk-averse when faced with gains and risk-seeking when faced with losses
• loss aversion


  we feel stronger about losses than gains

  
  

  they have greater weight than potential gains
• gains example


  1. get £100

  2. 50% chance winning £200 or nothing

  (expected value of both is £100)

  
  

  most people don't take risk
• losses example


  1. lose £100

  2. 50% chance losing £200 or nothing

  (expected value of both is £100)

  
  

  most people take risk
• diminishing marginal value


  while gains increase in absolute value, the additional subjective value they provide diminishes

  
  

  people risk less
• convex for losses


  perceived pain of losses increases at an accelerating rate as the magnitude of the loss increases

  
  

  take greater risks to avoid larger losses
• choosing a medical treatment (McNeil et al 1982)


  survival frame: after surgery/radiation treatment - 70 alive first year, 35 at 5yrs

  
  

  82% choose surgery

  
  

  mortality rate: 30 die first year, 65 at 5yrs

  
  

  56% choose surgery
• Framing Effects and Preference Reversals


  People tend to be risk averse when the outcome is framed as a gain and risk-seeking when the outcome is framed as a loss

  violates the principle of invariance:people’s choices should depend on the situation, not on the way it is described
• reference point for gains and losses


  Gains and losses are calculated from a reference point - usually our current situation

  
  

  Losses are given greater weight in decisions than gains

  
  

  shifting the reference point can lead to different judgments
• endowment effect


  when ownership increases the value of an item
• endowment effect mug study (Kahneman, Knetsch & Thaler 1990)

  sellers given mug, decide how much they'd sell it for

  
  

  buyers asked how much they'd buy one for

  
  

  sellers - $7.12, 3/4 kept mug

  buyers - $2.87, 1/4 bought mug
• disjunction effect


  the decision maker has good reasons for accepting x if A occurs and different reasons for accepting x if A does not occur

  
  

  eg buying holiday for passing exams / cheering up after failing
• sure thing principle


  If we prefer X to Y in any state of the world then we should prefer X to Y when the state of the world is uncertain

  
  

  disjunction effect violates this sometimes

  (when picking to pay extra for holiday offer to stay open)
• Reason Based Choice


  People look for reasons or arguments to support their decisions

  
  

  People may make the same decision but for a different reason (disjunction)

  
  

  Vacation problem - Pass = to celebrate

  Fail =to cheer up, Uncertainty = no reason
• asymmetric dominance


  When the addition of a third inferior choice increases the sales of the second.

  
  

  A- 60 for 3.99

  B- 70 for 4.99

  C- 70 for 5.99
• paradox of choice


  abundance of options requires more effort to choose and leaves us unsatisfied with choice

  
  

  6 jams - 30% bought, more satisfied

  24 jams - 3% bought, less satisfied