Jack L. Knetsch

Anomalies: The Endowment Effect, Loss Aversion, and Status Quo Bias

A speaker enclosure which is particularly useful for stereophonic applications, but which also provides superior sound reproduction from monophonic sources. A reduction in size of the usual stereophonic speaker system is accomplished without sacrificing sound quality or stereo effect. Full bass reproduction is obtained from a small source, and the reflective properties of room surfaces, such as the walls and the ceiling, are taken advantage of, to enhance the sound dispersion capabilities of the system by reflective reinforcement.

Fairness and the Assumptions of Economics

The advantages and disadvantages of expanding the standard economic model by more realistic behavioral assumptions have received much attention. The issue raised in this article is whether it is useful to complicate-or perhaps to enrichthe model of the profit-seeking firm by considering the preferences that people have for being treated fairly and for treating others fairly. The absence of considerations of fairness and loyalty from standard economic theory is one of the most striking contrasts between this body of theory and other social sciences-and also between economic theory and lay intuitions about human behavior. Actions in many domains commonly conform to standards of decency that are more restrictive than the legal ones: the institutions of tipping and lost-and-found offices rest on expectations of such actions. Nevertheless, the standard microeconomic model of the profitmaximizing firm assigns essentially no role to The traditional assumption that fairness is irrelevant to economic analysis is questioned. Even profit-maximizing firms will have an incentive to act in a manner that is perceived as fair if the individuals with whom they deal are willing to resist unfair transactions and punish unfair firms at some cost to themselves. Three experiments demonstrated that willingness to enforce fairness is common. Community standards for actions affecting customers, tenants, and employees were studied in telephone surveys. The rules of fairness, some of which are not obvious, help explain some anomalous market phenomena. * The research for this paper was supported by the Department of Fisheries and Oceans Canada. Kahneman and Thaler were also supported, respectively, by the U.S. Office of Naval Research and by the Alfred P. Sloan Foundation. Conversations with J. Brander, R. Frank, and A. Tversky were very helpful. We also thank Leslie McPherson and Daniel Treisman for their assistance. The paper presented at the conference and commented on by the discussants included a detailed report of study 3, which is only summarized here. It did not contain study 1, which was incomplete at the time. Daniel Kahneman is now in the Department of Psychology, University of California, Berkeley 94720.

Valuing public goods: The purchase of moral satisfaction

Contingent valuation surveys in which respondents state their willingness to pay (WTP) for public goods are coming into use in cost-benefit analyses and in litigation over environmental losses. The validity of the method is brought into question by several experimental observations. An embedding effect is dem(~ns~rated, in which WTP for a good \arie\ depending on whether it is evaluated on its own or as part of a more inclusive category. The ordering of various public issues by WTP is predicted with significant accuracy by independent ratings of the moral satisfaction associated with contributions to these causc~. Contingent valuation responses reflect the willingness to pay for the moral satisfaction ol contributing to public goods, not the economic value of thehe goods. ’ I‘J’I? ,Acxlcrnl~ Pi-L?\ lnc There is substantial demand for a practical technique for measuring the value of non-market goods. Measures of value are required for cost-benefit assessments ot public goods, for the analysis of policies that affect the environment. and for realistic estimates of environmental damages resulting from human action, such as oil spills. In recent years the contingent valuation method (CVM) has gained prominence as the major technique for the assessment of the value of environmental amenities. This paper is concerned with a critique of CVM. The idea of CVM is quite simple: respondents are asked to indicate their value for a public good, usually by specifying the maximum amount they would be willing to pay to obtain or to retain it. The total value of the good is estimated by nlultiplying the average willingness to pay (WTP) observed in the sample by the number of households in the relevant population. This value is sometimes divided into use r~lue and non-use Ll&e by comparing the WTP of respondents who expect to enjoy the public good personally (e.g., benefit from improved visibility or from the increased number of fish in a cleaned up stream) to the WTP ot respondents who have no such expectations. Specific questions are sometimes added to partition non-use value further into the value of retaining an option fol future use, a bequest value, and a pure existence value 1151. The accuracy of the CVM is a matter of substantial practical import, not only in cost-benefit assessments but also in litigation over liability and damages. The validity of the technique is take as a rebuttable presumption in envir~~nmental cases brought in the United States under the Comprehensive Environmental Response, Compensation and Liability Act of 1980 (CERCLA). The research on the method has been reviewed in two authoritative volumes. which offer detailed *This research was supported by Fisheries and Oceans Canada, the Ontario Ministry 01’ thi: Environment. and the Sloan Foundation. Interviews and preliminary statistical analyses were prrformed by Campbell-Goodell Consultants, Vancouver, British Columbia. We benefited from conversations with George Akerlof, James Bieke, Brian Binger, Ralph d‘Arge, Elizabeth Hoffman. Richard Thaler. and Frances van Loo. from a commentary by Glenn Harrison. and from the statistical expertise of Carol Nickerson.

Willingness to Pay and Compensation Demanded: Experimental Evidence of an Unexpected Disparity in Measures of Value

Aside from possible income effects, measures of the maximum amounts people will pay to avoid a loss and the minimum compensation necessary for them to accept it are generally assumed to be equivalent. Unexpectedly wide variations between these sums, however, have been noted in survey responses to hypothetical options. This paper reports the results of a series of experiments that confronted people with actual money payments and cash compensations. The results indicate that the compensation measure of value seems to exceed significantly the willingness to pay measure, which would appear to call into some question various rules of entitlement, damage assessments, and interpretations of indifference curves.

Environmental policy implications of disparities between willingness to pay and compensation demanded measures of values

Abstract Like most economic analyses, environmental loss assessments and policy prescriptions are based on the assumption that, income effects aside, willingness-to-pay and compensation-demanded valuations will be equivalent. The accumulating evidence from controlled tests indicates, however, that the compensation measure is commonly far larger than the payment measure. Consequently, it is likely that, among other implications, losses are understated, standards are set at inappropriate levels, policy selections are biased, too many environmentally degrading activities are encouraged, and too few mitigation efforts are undertaken.

The Influence of Reservoir Projects on Land Values

The economic effects of water resource development projects may be more fully appraised by taking account of land value changes. An estimate is made of the anticipated land increment of a planned project, based on an analysis of value changes near existing TVA reservoirs. The estimated values of the land effected are found to vary, depending on site and locational characteristics. The value increases, in the case examined, are substantial and are due mainly to the value of the project as a recreational and amenity resource, although not all of the recreational benefits are thereby calculated. The results and methods used should have relevance to discussions of repayment policy, planning, management, and operating decisions, and in assessing the impact of other kinds of public investment.

Preferences and nonreversibility of indifference curves

Abstract New evidence indicating that people commonly demand more to give up an entitlement than they would pay to acquire the same good suggests that reversible indifference curves may not accurately reflect consumer preference orderings. This paper presents the results of two direct experimental tests of such reversibilities. The tests used two commodity sets, two different experimental designs, and both student and non-student participants. The results of both experiments showed large valuation disparities, consistent with other tests of an endowment effect, and nonreversibility of indifference curves.

The Economics of Outdoor Recreation

This book is one of the first to supply the means for evaluating recreational resources in economic terms. Originally published in 1967.

Environmental Damage Schedules: Community Judgments of Importance and Assessments of Losses

Available methods of valuing environmental changes are often limited in their applicability to current issues such as damage assessment and implementing regulatory controls, or may otherwise not provide reliable readings of community preferences. An alternative is to base decisions on predetermined fixed schedules of sanctions, restrictions, damage awards, and other allocative guides and incentives, which are based on community judgments of the relative importance of different environmental resources and particular changes in their availability and quality. Such schedules can offer advantages of cost savings and consistency over current methods, as demonstrated in the case of Thailand coastal resources. (Jel Q20)

Assumptions, behavioral findings, and policy analysis

Recent empirical studies indicate that many standard economic assumptions used in policy analyses do not reflect peoples preferences and choices as well as modifications based on behavioral findings. Differences in the areas of time preferences and the large disparity between valuations of gains and losses illustrate the issues and the distortions that present analyses likely impose.