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Expectations-Based Loss Aversion May Help Explain Seemingly Dominated Choices in Strategy-Proof Mechanisms

Author

Listed:
  • Bnaya Dreyfuss
  • Ori Heffetz
  • Matthew Rabin

Abstract

Deferred Acceptance (DA), a widely implemented algorithm, is meant to improve allocations: under classical preferences, it induces preference-concordant rankings. However, recent evidence shows that—in both real, large-stakes applications and experiments—participants frequently play seemingly dominated, significantly costly, strategies that avoid small chances of good outcomes. We show theoretically why, with expectations-based loss aversion, this behavior may be partly intentional. Reanalyzing existing experimental data on random serial dictatorship (a restriction of DA), we show that such reference-dependent preferences, with a degree and distribution of loss aversion that explain common levels of risk aversion elsewhere, fit the data better than no-loss-aversion preferences.

Suggested Citation

  • Bnaya Dreyfuss & Ori Heffetz & Matthew Rabin, 2019. "Expectations-Based Loss Aversion May Help Explain Seemingly Dominated Choices in Strategy-Proof Mechanisms," NBER Working Papers 26394, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:26394
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    More about this item

    JEL classification:

    • B49 - Schools of Economic Thought and Methodology - - Economic Methodology - - - Other
    • D47 - Microeconomics - - Market Structure, Pricing, and Design - - - Market Design
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D84 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Expectations; Speculations
    • D91 - Microeconomics - - Micro-Based Behavioral Economics - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making

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