8 - explanations of Allais paradoxes

Question 1

what is the other explanation of CCE and CRE than prospect theory

Answer 1

salience theory

Question 2

what is salience theory

Answer 2

• besides from probabilities - decision weights attached to events depend on difference in outcomes of the available option in relevant events
• options are evaluated by comparing to other options
• decision = which option is better in the event where options differ the most

Question 3

what is salience theory distinct prediction

Answer 3

CCE will happen if the lotteries are stochastically independent and wont happen if they arent

Question 4

the larger the difference between the options in relevant event…

Answer 4

the larger the decision weight on the event will tend to be

• the more attention is given to that option

Question 5

what will we do

Answer 5

for simplicity we approximate this by supposing choice between options by comparing them in the event where they differ the most

Question 6

what are the 2 interpretations of this

Answer 6

1. attention based
2. regret based

Question 7

what is attention based

Answer 7

• decision maker has limited attention
• draws its attention to the event where its decision will matter the most - where there is a biggest difference

Question 8

what is regret based

Answer 8

• decision maker is averse to large regrets so acts to avoid the possibility of them
• doesnt want to regret what might have been by not choosing the better option in the event that differs the most
• biggest scope for regret in the most different event

Question 9

what is a stochastically independent option

Answer 9

each option is resolved independently
- will roll the die once for option 1 and another time for option 2

• the outcomes are uncorrelated

Question 10

what is a stochastically dependent option

Answer 10

one roll resolves both options
* outcomes are correlated

Question 11

how can we apply salience theory to Allais paradoxes

what changes need to be made

Answer 11

• lotteries are resolved by draws from urn with balls numbered 1-100
• replace probabilities with events defined by draws

Question 12

what is the CCE when there is a single draw that resolves both options

Answer 12

stochastically dependent = one ball resolves both of the problems

• rules out the CCE - because safest options are chosen in both problems
• because looks at event with the biggest difference in outcomes and chooses best option = safe option has 2400, risky has 0

Question 13

what is CCE when 2 draws

Answer 13

stochastically independent
options are resolved by different balls
- 1 resolves safe, 1 resolves unsafe

CCE is restored
- choose safe in first option and risky in second option

Question 14

when wont CCE happen

when will it happen

Answer 14

when options in each choice are stochastically dependent

when stochastically independent

Question 15

what does salience theory predict

Answer 15

that CCE can occur if options are resolves separately - stochastically independent

and wont occur when options are stochastically dependent

Question 16

why doesnt the way that lotteries are resolved matter for EUT or prospect theory

Answer 16

prospect theory = decision weighting is driven by probabilities within each lottery

salience = decision weighting driven by comparison across lotteries - matters how it is resolved

Question 16

when will you choose the risky in problem 2

Answer 16

if more emphasis is placed on the event with the biggest difference - this dominates decision making - and you pick the riskier option

Question 16

what did the Bruhin et al 2022 study exploit

Answer 16

exploits how lotteries are resolved to discriminate between prospect theory and salience theory
- prospect = resolution doesnt matter
- salience = only see CCE in independent

Question 16

what was the Bruhin experimental design

Answer 16

• subjects face 2 blocks of choices
• 1 block = lotteries that are stochastically dependent
• 1 block = lotteries that are stochastically independent
• order faced randomised

Question 17

what are the Bruhin predictions

Answer 17

EUT
* subjects will not display CCE or CRE

prospect theory
* subjects may face CCE and CRE, but will be equally prone regardless of whether lotteries dependent/independent

salience theory
* may display CCE and CRE but only when lotteries are stochastically indepednet

Question 18

Bruhins
how were they displayed

Answer 18

• proportion of observations where violations of EUT observed - presents the expected direction (CCE/CRE) and opposite direction
• also presents the violations of independent and dependent results separately

Question 19

what were Bruhins results
evidence of violations of EUT
but what direction

Answer 19

• 30% violations in expected direction
• also violations in unexpected direction
• lots of people that are EUT consistent

Question 20

Bruhins results for salience theory

Answer 20

• more violations of EUT in expected direction when payoffs stochastically independent = as predicted
• but still cases of CCE/CRE in dependent = what prospect theory allows for - salience doesnt account for this

Question 21

what would you expect results to be for salience theory

Answer 21

• expected direction of EUT violations only present in indepedent and 0 for dependent
• but this is not the case
• even though indepednent > dependent

Question 22

Bruhin results that evaluate CCE and CRE separately

Answer 22

• bigger difference in independent and dependent frequencies for CCE than CRE

Question 23

Bruhin conclusions

Answer 23

i guess evidence for both salience and prospect?

Question 24

cons of Bruhin experimental design

Answer 24

within-subjects feature
all subjects face all of the tasks

• boredom
• perception each choice will not be the paid one