Now You See It! — Revealing a Rational Theory of Misconceptions Explaining the Disappearing Gap between Experimental Welfare Measures

Abstract

Recent contributions to the literature [Plott and Zeiler (2005, forthcoming) and Isoni et al (2009)] have questioned the robustness of the well documented WTA/WTP disparity showing that it can be eliminated with experimental procedures. However, a formal mathematical model explaining the role of procedures in the formation of experimentally observed welfare measures is absent in the literature. Extending the work of Pollak (1969) by introducing uncertainty, we are able to provide a model demonstrating how procedures influence welfare elicitation. The product of the theoretical frame is three-fold. The analysis allows (i) a clear differentiation between the role of procedures in “subject misconceptions” and the regularly observed disparity attenuation in repeated auction elicitation mechanisms; (ii) general guidance on the robust design of welfare elicitation experiments; and (iii) a refinement of the testable implications of the rational choice model. We report the results of new experiments to demonstrate the utility of our findings.

Keywords: WTA, WTP, welfare, experimental procedures

JEL Classification: C91, D11