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behavioral economics

Questions and Answers of Behavioral Economics

Battle of the sexes, cont. Are the two pure-strategy equilibria in the battle of the sexes (Table 10.8) trembling-hand perfect? Trembling-hand-perfect equilibrium is a refinement of Nash equilibrium.
Trembling-hand-perfect equilibrium A tremblinghand-perfect equilibrium is a Nash equilibrium that remains a best response for each player even when others have some minuscule probability of
Trembling-hand perfection Let us return to Table 10.9(c). As you know, (U, L) is a Nash equilibrium. (D, L) is not an equilibrium, since Player I can improve his payoff by playing U instead of D, and
The stag hunt This game is due to Jean-Jacques Rousseau, the eighteenth-century French philosopher. Rousseau describes a scenario in which two individuals go hunting. The two can hunt hare or deer
Chess Chess is a finite game. We know this because every player has a finite number of moves to choose from at any point in the game and because every game ends after a finite number of moves.
Nash’s theorem Every finite game – that is, every game in which all players have a finite number of pure strategies – has a Nash equilibrium.Given this theorem, the search for Nash equilibria
Rock-paper-scissors (a) Draw the payoff matrix for the game rock-paper-scissors. Suppose that a win gives you 1 utile, a tie 0, and a loss −1. (b) What is the unique Nash equilibrium in this game?
Pure vs. mixed equilibria Find all Nash equilibria (in pure and mixed strategies) in the games depicted in Table 10.9. Although a mixed-strategy equilibrium may at first blush seem like an artificial
Mixed-strategy equilibrium Find the mixed-strategy Nash equilibria in Tables 10.4(a) and (b) In the mixed-strategy equilibrium in (a), notice that Player I is more likely to play D than U and that
Battle of the sexes, cont. In order to find the mixedstrategy equilibrium in the battle of the sexes (Table 10.8), let us assume that Player I plays U with probability p and D with probability (1
Coffee shops, cont. Suppose that you still have to go to one of the two coffee shops in Example 10.3 and that your ex has to also. You do not want to run into your ex, but your ex wants to run into
The Leviathan The seventeenth-century political philosopher Thomas Hobbes offered a justification of political authority by imagining what life would be like without it. In one of the most famous
Prisoners’ dilemma Two criminals are arrested on suspicion of two separate crimes. The prosecutor has sufficient evidence to convict the two on the minor charge, but not on the major one. If the
Nash equilibrium in pure strategies Find all Nash equilibria in the games in Table 10.4, where Player I chooses between Up (U), Middle (M), and Down (D) and Player II chooses between Left (L), Middle
Battle of the sexes A husband and wife must decide whether to have dinner at the steak house or at the crab shack. All things equal, both would rather dine together than alone, but the man (Player I)
Coffee shops You and your study partner are planning to meet at noon at one of two coffee shops, Lucy’s Coffee and Crestwood Coffee. Unfortunately, you failed to specify which one, and you have no
Nash equilibrium A Nash equilibrium is a strategy profile such that each strategy in the profile is a best response to the other strategies in the profile.
The makeup exam One year there were two students taking Chemistry. They both did so well on quizzes, midterms, and labs that they decided to leave town and go partying the weekend before the exam.
Drawing on your own experience, make up stories like those in Exercise 9.28 to illustrate the various ideas that you have read about in this chapter.
Match each of the vignettes below with one of the following phenomena: hyperbolic discounting, preference over profiles, choosing not to choose, and misprediction / miswanting. If in doubt, pick the
In much of the modern world, people are supposed to decide themselves whom to marry. The decision is often (expected to be) made when young, in love, and/or sexually aroused. (a) Give at least two
Weights and shackles Seneca offered the following advice: [Reflect] that prisoners at first find the weights and shackles on their legs hard to bear, but subsequently, once they have determined to
From the underground The book Notes from the Underground, by Russian novelist Fyodor Dostoyevsky, is often described as the first existentialist novel. Here’s a sample:Now I ask you: what can be
Orpheus and Eurydice Superstar singer–songwriter Orpheus messed up. Long story, but tl;dr he had to go get his main squeeze, Eurydice, back from the underworld. Things went well at first, but the
Addiction Suppose that life has three periods: youth, middle age, and old age. In every period you decide whether to do drugs (“hit”) or not (“refrain”). The utility of hitting depends on
Retirement savings When young, many people fully intend to save for retirement. However, when they start making money after college, they are often tempted to spend it immediately. Assume that Ximena
Happiest professions Table 9.3 shows the result of a survey about the happiness of people in various professions: the middle column lists the five happiest professions, and the right-hand column the
Buffet lines Perhaps you too have the following experience when picking up dinner from a buffet, where you can serve yourself exactly what kind of food you want. At the end of the meal, people find
Sidgwick What kind of misprediction is described in the following passage, by the nineteenth-century moral philosopher Henry Sidgwick? In estimating for practical purposes the value of different
Fasting Some religious traditions encourage fasting as a way to identify with less fortunate fellow human beings. The underlying insight is consistent with projection bias: it is only when we
College Many adults will tell you that their college years were the best years of their lives. This is puzzling since actual college students are not, on the average, fantastically happy. Use the
The peak–end rule, cont. This exercise refers to Figure 9.6. Would a person who follows the peak–end rule choose the episode represented by the solid line or the episode represented by the dashed
The peak–end rule Suppose you add a pleasant tail to an already pleasant episode. If people assess the episode as a whole in accordance with the peak–end rule, will this make people think of the
Hunter S. Thompson The following passage, attributed to American writer Hunter S. Thompson, illustrates the power of stories: Life should not be a journey to the grave with the intention of arriving
Economics professors Rumor has it that even economics professors frequently elect to receive their annual salary in twelve rather than nine installments, even though they would maximize their
Cleaning the house It is Sunday morning (t = 0), and you are determined to accomplish two things today: cleaning the apartment and going to the movies. You can either clean during the morning (at t =
Johnny Depp 2 This exercise refers to Example 9.10. Suppose instead that you can only watch one of the four movies. Will you watch a the mediocre, b the good, c the great, or d the fantastic movie?
Johnny Depp 1 Your local cinema theater offers a mediocre movie this week (u0 = 3), a good movie next week (u1 = 5), a great movie in two weeks (u2 = 8), and a fantastic Johnny Depp movie in three
Wicksteed’s blanket The theologian and economist Philip Wicksteed offers the following observation: “[We] lie awake (or what we call awake next morning) half the night consciously suffering from
Suppose that you discount the future hyperbolically. Assume that both β and δ are strictly greater than zero but strictly smaller than one. At t = 0, you are given the choice between the following
Suppose that you discount the future hyperbolically. Assume that both β and δ are strictly greater than zero but strictly smaller than one. At t = 0, you are given the choice between the following
Suppose that you discount the future hyperbolically, that is, in accordance with the beta–delta function, and that from the point of view of Thursday you are indifferent between options a (1 utile
Cancer screening Most colon cancers develop from polyps. Because early screening can detect polyps before they become cancerous and colon cancer in its early stages, many doctors advise patients over
Impulsivity and impatience Suppose you are offered the choice between option a (8 utiles on Thursday) and b (12 utiles on Friday). (a) Assume that β = 1 and that δ = 5/6. From the point of view of
Dieting today and tomorrow Suppose that you are on a diet, but have to decide whether to have a slice of red-velvet cake at a party some random Saturday. Eating the cake would give you a utility of
The beta–delta function Suppose that you are facing a utility stream of 1 utile at t = 0, 3 utiles at t = 1, and 9 utiles at t = 2. For each of the following parameter values, apply the
The beta–delta function According to the beta–delta function, the utility U0 (u) of utility stream u = 〈u0 , u1 , u2 , …〉 from the point of view of t = 0 is U 0 (u) = u0 + βδu1 + βδ 2u2
Time discounting and interest rates Whether you should spend or save will depend not just on your time preference, but on the interest you can get when putting your money in a savings account.
The afterlife Some people believe in an afterlife where wrongs are righted and good behavior rewarded. What sort of time preference should we expect such believers to reveal in their behavior?
Heaven can wait Researchers have explored the possibility that a religious upbringing helps shape discount rates. A 2013 study starts off with the following stylized facts: (1) Calvinism discourages
Credit scores A study in the journal Psychological Science by two economists from the Federal Reserve Bank in Boston found a connection between people’s discount factor δ and their credit score. A
Suppose instead that the utility function is u(x) = x 2 . What would Table 8.4(b) look like, and what would δ be?Exercise 8.24 Youth sports In a 2014 interview, basketball star Kobe Bryant discussed
Suppose you are indifferent between dollar streams a and b in Table 8.4(a). Your utility function is u (x) = √x. What is your δ? Given the utility function, Table 8.4(a) can be converted into a
As a financial advisor, you offer your clients the possibility to invest in an asset that generates a utility stream of 1 utile this year (t = 0), 0 utiles next year (t = 1), and 1 utile the year
For each of the three decision problems in Table 8.3, compute δ on the assumption that a person is indifferent between a and b at time zero.
This exercise refers to the utility streams in Table 8.2. For each of the following people, compute δ. (a) At t = 0, Ahmed is indifferent between utility streams a andb. (b) At t = 0, Bella is
Use Figure 8.3 to answer the following questions: (a) If δ < 1/3, what would the curve look like? (b) What if δ > 1/3?
A stitch in time “A stitch in time saves nine,” people say when they want you to do something now rather than later. But not everyone will be swayed by that sort of concern. Suppose that you can
Indifference Suppose that Alexandra, at time zero, is indifferent between utility streams a (2 utiles at t = 0) and b (6 utiles at t = 1). What is her discount factor δ? Given that Alexandra is
The impartial spectator Adam Smith’s Theory of Moral Sentiments made a big deal of the differences between an “impartial spectator” and our actual selves. An impartial spectator, Smith wrote,
Discount factors For each of the following, identify whether the person’s δ is likely to be high (as in close to one) or low (as in close to zero): (a) A person who raids his trust fund to
The ant and the grasshopper According to the fable, the grasshopper chirped and played all summer while the ant was collecting food. When winter came, the ant had plenty of food but the grasshopper
Exponential discounting, cont. Suppose instead that δ = 0.1. (a) Compute the utility of each of the four utility streams from the point of view of t = 0. (b) What would you choose if given the
Exponential discounting Suppose that δ = 0.9, and that each utility stream is evaluated from t = 0. If so, U0 (a) = u0 = 1, U0 (b) = δu1 = 0.9 * 3 = 2.7, U0 (c) = δ 2u2 = 0.92 * 4 = 3.24, and U0
The delta function According to the delta function, the utility Uu) of utility stream u = (uo, u, u,...) from the point of view of t=0 is U (u) up+du +22 +8 us +.... = 40+ i=1
Payday loans, cont. Imagine that you borrow $61 from a payday loan establishment. After one week, it wants the principal plus 10 percent interest back. But you will not have that kind of money; so,
Savings Suppose that you put $100 into a savings account today and that your bank promises a 5 percent annual interest rate. (a) What will your bank’s liability be after 1 year? (b) After 10 years?
Compound interest Imagine, again, that you use a credit card to borrow $100 and that the monthly interest rate is 18 percent. In contrast to the previous example, however, you do not make monthly
Simple interest Imagine that you use a credit card to borrow $100, and that every month the credit-card company will charge you an interest rate of 18 percent of the principal. Every month, you pay
Payday loans Payday loan establishments offer short-term loans to be repaid on the borrower’s next payday. Fees fluctuate, but such an establishment may offer you $400 on the 15th of the month,
Implicit interest Suppose that somebody offers to lend you $105 on condition that you pay them back $115 one year later. What is the interest rate (r) implicit in this offer? We know that P = $105
Cost of credit, cont. What would it cost to borrow $ 1000 for one year using one of the other credit cards in Table 8.1? What if you need $100 or $10,000? Fees and APRs fluctuate; never make
Cost of credit Suppose you need to invest $1000 in a new car for one year. If you charge it to the Silver Axxess Visa Card, what is the total cost of the credit, taking into account the fact that you
Drawing on your own experience, make up stories like those in Exercise 7.38 to illustrate the various ideas that you have read about in this chapter.Exercie .8.1 Interest Suppose you borrow $100 for
Match each of the vignettes below with one of the following phenomena: ambiguity aversion, cancellation, certainty ef ect, competence hypothesis, silver lining, and mental accounting. If in doubt,
Life coaching Life coaches are people whose job it is to help you deal with challenges in your personal and professional life. (a) If you spend too much money, life coaches will sometimes suggest
Zero expected value Prospect theory is consistent with the result that people frequently reject gambles with an expected value of zero. Suppose you are facing a gamble G with a 1/2 probability of
Savings decisions You are lucky enough to have a million dollars in the bank. You have decided that there are only three serious investment options: putting it in your mattress, investing in stocks,
Show graphically that the expected value of the high-stakes gamble is lower than the utility of the status quo in Figure 7.7. The theorem is quite general. For example, it does not assume any
Lotteries as rewards Behavioral economists have found that using lotteries can be an effective way to incentivize behavioral change. Thus, a person may be more likely to fill in a survey or take a
Russian roulette Suppose that you are forced to play Russian roulette, but that you have the option to pay to remove one bullet from the loaded gun before pulling the trigger. Would you pay more to
Freakonomics The book Freakonomics discusses the economics of crack-cocaine. Contrary to what many people think, the vast majority of crack dealers make little money – frequently less than the
Value Given a decision problem as in Table 6.4 on page 132, the value (or weighted value) V(A) of an act A, is given by V(A) = [Pr (S)]*v (C) + * [Pr (S2)]*v (C) + ... + [Pr (Sn)]*v (Cin) Pr (S,)]v
Known knowns In a 2002 press briefing, American Defense Secretary Donald H. Rumsfeld said: “[As] we know, there are known knowns; there are things we know we know. We also know there are known
Nevada’s boom and bust Las Vegas entrepreneur Andrew Donner does not gamble at the casinos. Instead, he invests in real estate in the city’s downtown. Interviewed on Marketplace, Donner said:
Tennis You have been invited to bet on one of three tennis games. In game 1, two extraordinarily good tennis players are up against each other. In game 2, two extraordinarily poor tennis players are
The coins Suppose that you have the opportunity to bet on the outcome of a coin toss. If the coin comes up heads, you win; if it comes up tails, you lose. Suppose also that you are ambiguity averse.
Ellsberg problem Suppose that Dan shows you an urn with a total of 90 balls in it. There are three kinds of ball: red, black, and yellow. You know (from a trustworthy authority) that 30 are red, but
Certainty effect, cont. Show that it is a violation of expected-utility theory to choose (A) over (B) and (D) over (C) in Example 7.23. Notice that (C) and (D) can be obtained from (A) and (B) by
Certainty effect Which of the following options do you prefer: (A) a sure win of $30; (B) an 80 percent chance to win $45? Which of the following options do you prefer: (C) a 25 percent chance to win
Sure-thing principle, cont. Suppose that you face the options in Table 7.2(c) and that you must choose first between (la) and (1b), and second between (2a) and (2b). What choice pattern is ruled out
Sure-thing principle (a) Suppose that you face the options in Table 7.2(a). Which state of the world does the sure-thing principle tell you to ignore? (b) Suppose that you face the options in Table
Allais problem Suppose that you face the following options, and that you must choose first between (la) and (1b), and second between (2a) and (2b). What would you choose? (la) $1 million for sure
Silver linings For this question, suppose your value function is v (x) = √x/2 for gains and v (x) = −2√|x| for losses. Last night, you lost $9 in a bet. There was a silver lining, though: on
The pain of paying taxes The previous paragraph suggests that how you feel about paying your taxes will depend on whether you integrate that cost with the money you made or not. (a) If you are a
Online booksellers If you look this book up at a large online retailer, you may see a little advertisement saying something like: “This book is frequently bought with Kahneman’s Thinking, Fast
Evaluation of losses Yesterday, you had a terrible day: you got a $144 speeding ticket on your way to the opera, and then had to pay $25 for a ticket you thought would be free. Suppose your value
Air fares If you are old enough, you may remember the good old days when all sorts of conveniences were included in the price of an airline ticket. Under pressure to reduce the sticker price of their
The opposite arrangement Suppose that the opposite were true: whenever you purchase something, you have to pay cash on the spot, but your purchases are not delivered until the end of the month in a
Stalin Soviet dictator Joseph Stalin is alleged to have said: “The death of one man is a tragedy; the death of millions is a statistic.” This line captures an important insight about integration:

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