Problem 3 - A matter of Choice Flashcards
Habituation (food example asian vs Italian)
eating one type of food reduces your preference for this food
Dishabituation (food example asian vs Italian)
not eating the other type of food increases your preference for it
three principles on how choices are made
- preferences are dynamic
- given a series of choices, there is more than one way to frame the possible options
- local approach
- global approach - individuals always choose the better option
- local choice
- global choice
preferences are dynamic
1. principle on how choice is made
- choices and values are mutually dependent
- choice and value interact dynamically
local approach
2. principle on how choice is made
chose between available items one at a time
global approach (2.principle on how choice is made
deciding between sequences composed of Chinese & Italian meals
local choice
3. principle on how choice is made
best option is item that has currently higher value
–> e.g. value of drug would always be chosen over non drug activity
global choice (3. principle on how choice is made)
best option is collection or sequence of items that has higher value
–> e.g. would lead to abstinence = drug was never chosen
Local equilibrium
Choosing the behaviour that gives you the most reward at the moment
“I think I would like to eat Chinese food tonight, its almost my favourite”
- current values of the two meals are the same
- overall preference for Chinese food
- how people actually make choices
–> SUBOPTIMAL = hypothetical dinner ate too often Chinese food (overconsumption)
Global equilibrium
“I find that dining out is more pleasurable when I don’t always go to my favourite restaurant. I save it for when I really want a great meal”
- the point at which the curve shows the value of each possible meal plan attains its maximum value
- overall preference for Italian food
how economists say choices should be made
–> OPTIMAL choice (economist view)
‘matching law’/melioration
over remarkably wide range of conditions, people make choices as predicted by the local equilibrium
Traditional Economic Theory
assumes people behave ‘rationally’
–> seek info on quality, cost, options & properly use this to maximise utility
Limitations of Traditional Economic Theory
- assumes that people are NOT influenced by advertisements
- -> bc they already know what makes them best off
- bounded rationality: people actually face cognitive limitations –> use shortcuts and heuristics, rather than classic utility-maximising behaviour
- traditional economics does not address the decision-making process
– > this theory often poor art explaining behaviour
Behavioural Economic Theory
- acknowledges that people oftentimes do NOT act rationally (in economic sense)
- make myopic (kurzsichtig) decisions
- do not necessarily learn form mistakes
Background of Behavioural Economic Theory
Prospect Theory (Kahnemann & Tversky):
Nudging
Prospect Theory
theory of individual economic risk taking behaviour
- ppl risk averse with regard of prospective gains
- risk seeking in face of large losses
Nudging
People should be given choices (libertarian idea), but should be guided by experts (paternalistic idea)
- ppl often do NOT make decisions in their best interest
- so need to be nudged towards better decisions
Endownment effect
when person comes into possession of something, he/she feels ownership toward it & thereby overvalues the item