October 19, 2005
More from the MLEA Conference
Posted by Christine Hurt

If you have read even one article on behavioral economics, then you have probably run across the mug/pen experiment.  In this experiment, as it has been run many, many times, subjects are much less willing to trade the object they have been initially given, whether it is the mug or the pen, for the other object.  This experiment is said to illustrate the endowment effect, which basically says that I value what is mine over an equivalent object that is not mine.  Although I might pay $3 for the mug in the first place, I would require more than $3 to give it up.  Two presenters at MLEA talked about the endowment effect.  Scott Moss talked about the endowment effect with regard to employment discrimination damages:  Judges' "Behavior" Problems:  What Behavioral Economics Says Employment Discrimination Law is Getting Wrong (Or;  "Yes, Virginia, There is a Prescriptive Aspect to Behavioral Law & Economics)."  If I get fired discriminatorily, but I find another job paying the same amount by the end of the day, I may still have noneconomic damages because I valued my current job more.  I look forward to seeing the final paper, as the topic was very intriguing.

The second presenter on this subject was Kathy Zeiler, who turned the conventional wisdom on the endowment effect on its ear.  The presentation was based on a paper she co-authored with Charles R. Plott of CalTech:  The Willingness to Pay/Willingness to Accept Gap, the Endowment Effect, and Experimental Procedures for Eliciting Valuations.  By altering the procedures of the experiment, Kathy was able to produce much less of a gap.  For example, subjects were more likely to trade if the mug was not placed in front of them and if they merely had to check a box on a form to trade, instead of raising their hands.  I think these new findings are important for the study of securities trading.  If investors really buy quickly and sell slowly, is this because of the endowment effect?  Investors rarely, if ever, physically see the securities they own.  Are investors more likely to feel an endowment effect for securities they pick over securities an advisor picked for them?

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1. Posted by Scott Moss on October 19, 2005 @ 13:39 | Permalink

I thought the Zeiler presentation was interesting, and I look forward to reading it soon. I think it's a real contribution to parse out situations in which the endowment effect is strong, present, or absent. I've seen some work in that regard before, but I think hers adds to that literature. My only hesitation is that I'm dubious of the "strong form" of her thesis: that because the endowment effect disappears when you change the conditions, there is no such thing as the endowment effect.

I expressed that concern to her at the conference, and her response was (I hope I'm doing it justice) that if "mere ownership" isn't sufficient to increase people's valuation of goods/entitlements --that is, if they increase their valuation if goods they own only under certain conditions -- then any such context-specific increased valuation isn't an "endowment effect," since it isn't based purely on "ownership." On the one hand, this is close to just disputing terminology; her objection seems to be that calling it "endowment" incorrectly implies that mere ownership is a sufficient condition for the effect.

On the other hand, perhaps she's right that if the "endowment effect" applies more narrowly than previously recognized, maybe people's increased valuation is just some combination of other effects (transaction costs of selling an entitlement? risk aversion? loss aversion?). I'm not convinced, but the reason I concede she might be onto something here is that behavioral ec is a relatively young field, and the number of "behavioral quirks" at times seems overly long and insufficiently organized. It's not always clear which behavioral quick is a subset or specific case of another. I'd bet that in 10 years the "behavioral catalogue" will look a bit different, and her paper may help us along that road.

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