Question 1

Consider the same ultimatum game as in the previous questions but consider yet new preferences reflecting envy. In particular,now assume players get 1 util per dollar earned. That is all for the player who earns at least as much as the other. The player who earns strictly less than the other loses 1 util for each dollar difference. Which of the following is an offer that arises in a subgame-perfect equilibrium with these preferences?

Accepted Answer

In this version of the game, players are not only concerned with their own payoffs, but also with the difference in payoffs between them and their counterpart. As such, the proposer needs to offer the responder at least 50% of the total amount in order to avoid a negative payoff for the responder. Option 1 is too low and would result in a negative payoff for the responder, which the responder will not accept. Options 2 and 5 would offer the responder more than 50%, but they are not sustainable subgame-perfect equilibria, as the proposer can do better by offering less and still be accepted.

Option 4 offers the responder exactly 50% of the total amount, which is the minimum requirement to avoid a negative payoff. Moreover, it is a subgame-perfect equilibrium, as the proposer cannot do better by offering less. Therefore, option 4 is the best choice for both players in this game with envy preferences.

Question 2

An individual has preferences consistent with prospect theory. The person takes their current wealth of $10,000 (plus any certain additions)as their reference point. Gains above this reference point are worth +1 util. Losses below this reference point are worth -2 utils. The person is faced with two choice problems. The first involves a choice between (A)no gamble and (B)a gamble with an equal chance of winning $1,800 and losing $1,000. The second choice problem,the person first has $1,000 taken away (resulting in the adjustment of the reference point). The choice is then between (C)being given back $1,000 for sure and (D)an equal chance of winning $2,800 or nothing. What choices would the person make?

Accepted Answer

B

Question 3

What are the main differences between neoclassical economics and behavioral economics?

Accepted Answer

B

Question 4

Return to the case of Jan,the hyperbolic discounter from the previous question. Suppose she can sign a contract that requires her to give up money equivalent to a loss of X utils if she does not undertake the action. Assume she does not behave consistent with her plans without this contract. How high would the contractual value of X have to be to prevent her inconsistency?

Accepted Answer

The contractual value of X would have to be equal to C - B/2 to prevent her inconsistency. This is because the value of the contract to Jan is equal to the difference between the value of the action and the value of the loss, which is C - B. However, Jan is a hyperbolic discounter, so she values the loss more heavily than the action. Therefore, the contractual value of X must be greater than C - B in order to make the contract more valuable to Jan than the action. The correct answer is therefore A.

Question 5

The option-value principle can be roughly stated as "more choices can't make a person worse off." Are there any exceptions to this rule? Choose all that apply.?

Accepted Answer

C

Question 6

People are sometimes seen to give up money to make an allocation more fair. What experiment could be used to determine if this is because people truly care about fairness or because people want to avoid the consequences of others' spite?

Accepted Answer

The Dictator Game is designed to test if individuals will give up money for fairness without fear of retaliation, as the recipient has no power to reject the offer.

Question 7

When psychologists refer to the "Paradox of Choice",what do they mean?

Accepted Answer

The paradox of choice suggests that having too many options can actually lead to anxiety and decision paralysis, causing people to avoid making a decision altogether. Research has shown that when presented with too many options, people may have a harder time making a selection and may ultimately feel less satisfied with their choice.

Question 8

Which of the following would make a player more inclined to continue into later stages of the Centipede Game rather than ending the game immediately? (Choose all that apply.)

Accepted Answer

C
D

Question 9

In what way does prospect theory differ from the standard theory of expected utility?

Accepted Answer

Prospect theory differs from standard theory of expected utility in that it takes into account the reference point or initial wealth level of an individual. This means that preferences and attitudes towards risk can change depending on whether the person is starting with a high or low initial wealth level. This is not the case in expected utility theory, where preferences are based solely on final wealth levels.

Question 10

Which is not a factor that makes cognitive mistakes more likely?

Accepted Answer

Repetition actually reduces the chances of making cognitive mistakes by increasing familiarity and improving memory recall. Therefore, all the other options - uncertainty, time pressure, and large number of choices - are factors that can make cognitive mistakes more likely.

Question 11

Jan is a hyperbolic discounter. She puts weight 1 on utility earned in the current period but only weight .5 on utility earned in future periods. In period 1 she comes up with a plan,which involves taking some action that leads to a loss of C utils in period 2 but provides a benefit of B utils in period 3. What values of B and C will lead her to behave inconsistently and not follow through on her plans?

Accepted Answer

For Jan to behave inconsistently and not follow through on her plans, the perceived utility of the action in period 1 must be positive, but negative in period 2. In period 1, she values the future utility at a discount, so the net utility she anticipates is -0.5C (the cost in period 2 discounted) + 0.25B (the benefit in period 3 further discounted). For her to initially plan to take the action, this sum must be positive, implying 0.25B > 0.5C, or B > 2C. However, in period 2, when the cost is immediate, she no longer discounts it, but she still discounts the future benefit, so her valuation is -C + 0.5B. For her to abandon her plan, this sum must be negative, implying 0.5B < C, or B < 2C. Combining these, for inconsistency, B must be greater than 2C to make the plan initially but less than 2C to abandon it, which is a contradiction. The correct interpretation is that for inconsistency, the benefit must be perceived as worth less in the immediate next period but worth pursuing when looking two periods ahead. Thus, the correct condition is C < B < 2C, where she initially sees the action as beneficial but re-evaluates it as not worth the immediate cost when the time comes to act.

Question 12

Return to the case of Jan,the hyperbolic discounter from the previous question. What values of B and C will lead her to be consistent with a plan not to undertake the action?

Accepted Answer

The answer of Return to the case of Jan,the hyperbolic...

Question 13

Consider the same ultimatum game as in the previous question but consider some new preferences reflecting a desire for fairness. In particular,now assume players get 1 util per dollar earned but lose 1/4 util for the absolute difference between their monetary payoffs. Which of the following is an offer that arises in a subgame-perfect equilibrium with these new preferences?

Accepted Answer

With the new preferences, players value fairness and are penalized for disparities in payoffs. An offer of 2 ensures a fairer distribution, minimizing the utility loss from the absolute difference in payoffs, and is likely to be accepted, making it a subgame-perfect equilibrium.

Question 14

Which of the following weights on utility (over four periods starting with the current one)provide an illustration of hyperbolic discounting that could well lead to inconsistent choices over time?

Accepted Answer

The weights in option C exhibit hyperbolic discounting, where the discounting factor decreases rapidly in the near future but flattens out in the distant future. This can lead to inconsistent choices over time as the same option may be preferred or rejected depending on how far away the payoff is. The other options exhibit either constant discounting (option D) or exponential discounting (options A and B), which do not result in such inconsistencies.

Question 15

Limits to self-interested payoff maximization that have been studied by behavioral economists include

Accepted Answer

Behavioral economists have studied all of these limits to self-interested payoff maximization. Limited cognitive ability can lead individuals to make irrational decisions or overlook important information when calculating their payoffs. Limited willpower can lead individuals to make choices that go against their own long-term interests, such as choosing immediate gratification over delayed benefits. Finally, there are limits to self-interest itself, as individuals may sometimes act in ways that benefit others out of altruistic or ethical motivations.

Question 16

Consider a version of the ultimatum game in which player A makes an integer offer {1,2 …,9} to player B. If B accepts,he or she gets that amount of money and A gets to keep the remainder of $10. If B rejects,both get nothing. Which of the following is an offer that arises in a subgame-perfect equilibrium assuming players only care about monetary payoffs?

Accepted Answer

In a subgame-perfect equilibrium of the ultimatum game, player A will offer the smallest possible amount that player B will accept, assuming rational behavior focused solely on monetary payoffs. Player B, knowing that receiving something is better than nothing, will accept any positive amount. Therefore, the smallest integer offer, which is $1, is the offer that arises in a subgame-perfect equilibrium, as it maximizes player A's payoff while still being acceptable to player B.

Question 17

An economist encounters some unexpected behavior in a market or laboratory setting. How can he or she distinguish between behavior resulting from mistakes by decision makers as opposed to being decisions based on unusual preferences?

Accepted Answer

Both options provide helpful indications to distinguish between mistakes and unusual preferences. Option A suggests that repeated behavior indicates a deliberate decision rather than a mistake, while Option B implies that mistakes are more likely with inexperienced individuals. Considering both options together can allow for a more nuanced understanding of economic decision-making.

Question 18

Return to the case of Jan,the hyperbolic discounter from the previous question. What values of B and C will lead her to be consistent with a plan to undertake the action?

Accepted Answer

The answer of Return to the case of Jan,the hyperbolic...

Question 19

An individual has preferences consistent with standard expected utility theory. They have utility function U(x)over wealth x. Starting with initial wealth of $10,000,the person is then faced with two choice problems. The first involves a choice between (A)no gamble and (B)a gamble with an equal chance of winning $1,800 and losing $1,000. The second choice problem,the person first has $1,000 taken away (resulting in the adjustment of the reference point). The choice is then between (C)being given back $1,000 for sure and (D)an equal chance of winning $2,800 or nothing. What can be said about the choices the person would make?

Accepted Answer

BThe choices a person makes under standard expected utility theory depend on their utility function and the expected utility of each option. Without specific details about the utility function, we can't predict the exact choices. However, we can analyze the consistency of choices based on expected utility principles. Choice A (no gamble) and Choice D (an equal chance of winning $2,800 or nothing) involve different levels of risk and expected outcomes, especially after adjusting the reference point by taking away $1,000. If a person is risk-averse, they might prefer the certainty of Choice A initially but could be inclined towards the gamble in Choice D after losing $1,000, seeking to recover more significantly. This inconsistency can arise due to the change in the reference point and the perceived value of the gamble relative to the new reference point. Choice B (never choosing both A and C) is correct because if a person chooses A (no gamble) initially, it indicates a preference for certainty or a lower risk tolerance. After losing $1,000, choosing C (being given back $1,000 for sure) aligns with this preference for certainty, making it consistent with expected utility theory. Choosing A initially and then C does not inherently involve a contradiction in preferences based on the information given.

Question 20

The government is considering a mandatory savings program that forces people to save 8% of their income each year for retirement. What behavioral biases might be used as a justification for such a program? (Choose all that apply.)?

Accepted Answer

The answer of The government is considering a mandatory savings...

Quiz 17: Behavioral Economics

What are the main differences between neoclassical economics and behavioral economics?

The option-value principle can be roughly stated as "more choices can't make a person worse off." Are there any exceptions to this rule? Choose all that apply.?

People are sometimes seen to give up money to make an allocation more fair. What experiment could be used to determine if this is because people truly care about fairness or because people want to avoid the consequences of others' spite?

When psychologists refer to the "Paradox of Choice",what do they mean?

Which of the following would make a player more inclined to continue into later stages of the Centipede Game rather than ending the game immediately? (Choose all that apply.)

In what way does prospect theory differ from the standard theory of expected utility?

Which is not a factor that makes cognitive mistakes more likely?

Return to the case of Jan,the hyperbolic discounter from the previous question. What values of B and C will lead her to be consistent with a plan not to undertake the action?

Which of the following weights on utility (over four periods starting with the current one) provide an illustration of hyperbolic discounting that could well lead to inconsistent choices over time?

Limits to self-interested payoff maximization that have been studied by behavioral economists include

An economist encounters some unexpected behavior in a market or laboratory setting. How can he or she distinguish between behavior resulting from mistakes by decision makers as opposed to being decisions based on unusual preferences?

Return to the case of Jan,the hyperbolic discounter from the previous question. What values of B and C will lead her to be consistent with a plan to undertake the action?

The government is considering a mandatory savings program that forces people to save 8% of their income each year for retirement. What behavioral biases might be used as a justification for such a program? (Choose all that apply.) ?