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On the Descriptive Value of Loss Aversion in Decisions under Risk: Six Clarifications

Judgment and Decision Making, 8(3), pp. 214-235, 2013

22 Pages Posted: 6 Sep 2007 Last revised: 11 Jun 2013

Eyal Ert

The Hebrew University of Jerusalem, Dept. of Environmental Economics and Management

Ido Erev

Technion-Israel Institute of Technology - William Davidson Faculty of Industrial Engineering & Management

Abstract

Previous studies of loss aversion in decisions under risk have led to mixed results. Losses appear to loom larger than gains in some settings, but not in others. The current paper clarifies these results by highlighting six experimental manipulations that tend to increase the likelihood of the behavior predicted by loss aversion. These manipulations include: (1) framing of the safe alternative as the status quo; (2) ensuring that the choice pattern predicted by loss aversion maximizes the probability of positive (rather than zero or negative) outcomes; (3) the use of high nominal (numerical) payoffs; (4) the use of high stakes; (5) the inclusion of highly attractive risky prospects that creates a contrast effect; and (6) the use of long experiments in which no feedback is provided and in which the computation of the expected values is difficult. In addition, the results suggest the possibility of learning in the absence of feedback: The tendency to select simple strategies, like “maximize the worst outcome” which implies “loss aversion”, increases when this behavior is not costly. Theoretical and practical implications are discussed.

Keywords: Prospect theory, relative risk aversion, status-quo bias, equity premium puzzle, contrast effect, choice lists

JEL Classification: C91, D01

Suggested Citation

Ert, Eyal and Erev, Ido, On the Descriptive Value of Loss Aversion in Decisions under Risk: Six Clarifications. Judgment and Decision Making, 8(3), pp. 214-235, 2013. Available at SSRN: https://ssrn.com/abstract=1012022 or http://dx.doi.org/10.2139/ssrn.1012022

Eyal Ert (Contact Author)

The Hebrew University of Jerusalem, Dept. of Environmental Economics and Management ( email )

P.O. Box 12
Rehovot, 76100
Israel

Ido Erev

Technion-Israel Institute of Technology - William Davidson Faculty of Industrial Engineering & Management ( email )

Haifa 32000
Israel

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