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Neoclassical Theory Versus Prospect Theory: Evidence from the Marketplace

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  • John A. List

Abstract

Several experimental studies have provided evidence that suggest indifference curves have a kink around the current endowment level. These results, which clearly contradict closely held economic doctrines, have led some influential commentators to call for an entirely new economic paradigm to displace conventional neoclassical theory-e.g., prospect theory, which invokes psychological effects. This paper pits neoclassical theory against prospect theory by investigating data drawn from more than 375 subjects actively participating in a well-functioning marketplace. The pattern of results suggests that prospect theory adequately organizes behavior among inexperienced consumers, but consumers with intense market experience behave largely in accordance with neoclassical predictions. Moreover, the data are consistent with the notion that consumers learn to overcome the endowment effect in situations beyond specific problems they have previously encountered. This "transference of behavior" across domains has important implications in both a positive and normative sense. Copyright The Econometric Society 2004.

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File URL: http://hdl.handle.net/10.1111/j.1468-0262.2004.00502.x
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Bibliographic Info

Article provided by Econometric Society in its journal Econometrica.

Volume (Year): 72 (2004)
Issue (Month): 2 (03)
Pages: 615-625

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Handle: RePEc:ecm:emetrp:v:72:y:2004:i:2:p:615-625

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  1. Knez, Peter & Smith, Vernon L & Williams, Arlington W, 1985. "Individual Rationality, Market Rationality, and Value Estimation," American Economic Review, American Economic Association, vol. 75(2), pages 397-402, May.
  2. Camerer, Colin F & Hogarth, Robin M, 1999. "The Effects of Financial Incentives in Experiments: A Review and Capital-Labor-Production Framework," Journal of Risk and Uncertainty, Springer, vol. 19(1-3), pages 7-42, December.
  3. Smith, Vernon L, 1982. "Microeconomic Systems as an Experimental Science," American Economic Review, American Economic Association, vol. 72(5), pages 923-55, December.
  4. Amos Tversky & Daniel Kahneman, 1979. "Prospect Theory: An Analysis of Decision under Risk," Levine's Working Paper Archive 7656, David K. Levine.
  5. Brookshire, David S & Coursey, Don L, 1987. "Measuring the Value of a Public Good: An Empirical Comparison of Elicitation Procedures," American Economic Review, American Economic Association, vol. 77(4), pages 554-66, September.
  6. John List, 2003. "Does market experience eliminate market anomalies?," Natural Field Experiments 00297, The Field Experiments Website.
  7. Coursey, Don L & Hovis, John L & Schulze, William D, 1987. "The Disparity between Willingness to Accept and Willingness to Pay Measures of Value," The Quarterly Journal of Economics, MIT Press, vol. 102(3), pages 679-90, August.
  8. Kahneman, Daniel & Knetsch, Jack L & Thaler, Richard H, 1990. "Experimental Tests of the Endowment Effect and the Coase Theorem," Journal of Political Economy, University of Chicago Press, vol. 98(6), pages 1325-48, December.
  9. Loewenstein, George, 1999. "Experimental Economics from the Vantage-Point of Behavioural Economics," Economic Journal, Royal Economic Society, vol. 109(453), pages F23-34, February.
  10. Knetsch, Jack L, 1989. "The Endowment Effect and Evidence of Nonreversible Indifference Curves," American Economic Review, American Economic Association, vol. 79(5), pages 1277-84, December.
  11. Munro, Alistair & Sugden, Robert, 2003. "On the theory of reference-dependent preferences," Journal of Economic Behavior & Organization, Elsevier, vol. 50(4), pages 407-428, April.
  12. John List, 2001. "Do explicit warnings eliminate the hypothetical bias in elicitation procedures? Evidence from field auctions for sportscards," Framed Field Experiments 00163, The Field Experiments Website.
  13. Knetsch, Jack L & Sinden, J A, 1987. "The Persistence of Evaluation Disparities," The Quarterly Journal of Economics, MIT Press, vol. 102(3), pages 691-95, August.
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