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Lecture 18

ECON 2023 Lecture Notes - Lecture 18: Daniel Kahneman, Marginal Utility, Prospect TheoryPremium

3 pages78 viewsFall 2016

Course Code
ECON 2023
Jeff Cooperstein

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Prospect Theory
Neoclassical economics: Consumer-choice situation only in good situations
Behavioral economics: How people cope w. negative possibilities
-3 facts how people deal w. goods & bads
1) Judge good & bad things in relative term
-As gains & losses relative to current situation (status quo)
2) Diminishing marginal utility for both gains & losses
For gains: Each successive unit of gain=NOT feel as good as previous unit
For losses: Each successive unit of loss= NOT hurt as painfully as previous unit
3) Loss aversion
For losses & gains near status quo, losses= felt much more intensely than gains
-Loss > gain (impact)
Prospect theory
-Pay attention to…
How consumers plan for & deal w. life’s ups & downs
Why they often appear narrow-minded & fail to “see big picture”
-Daniel Kahneman
-Awarded Nobel prize in economics w. powerful prospect theory
Losses & Shrinking Packages
-Business= be careful about increasing prices
-Used to given price—> “Any increase= loss (to status quo price)”
-Many business change product size (instead of price)
-Consumer mentally fixate on price (<= not fully rational)
-(Because price= characteristic in making purchasing decisions)
-E.g.) Hershey’s chocolate bar
Framing Effects & Advertising
-Evaluate situations in terms of gains & losses
-—> Decision-making= sensitive to mental frame
E.g. of frame changing purchase decisions
$100,000 salary per yr is happy??
-(Generally yes, but depends on your previous yr’s salary)
10% up of your hourly salary happy??
-(what is others get 15% up?)
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