EC3450 Behavioral Economics: Theory and Applications Summer Examinations 2021/22

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EC3450

Summer Examinations 2021/22

Behavioral Economics: Theory and Applications

Section A: Answer ALL FOUR questions

1.

(a) What is mental accounting? (3 marks)

(b) Mental accounting suggests that people prefer to segregate gains and aggregate losses. Explain this with the help of an example and a hypothetical value function diagram. (15 marks)

2.

(a) What contribution has Neuroeconomics made to our understanding of present bias? (4 marks)

(b) Give an example of empirical evidence that supports your claim (for example, you can base your answer on the paper by McClure et. al. (2004)). (14 marks)

3.

(a) Why is it that in a simple additive comparisons model (such as that in Clark and Oswald, 1998) the optimal response to a change in reference depends on the curvature of the comparison term? (6 marks)

(b) What do the results of Luttmer (2005) suggest about a possible mechanism for the relative income effect? (12 marks)

4. Explain how Charness and Rabin (2002) deal with the fact that behaviour in experimental games is often consistent with multiple explanations. How does this relate to the relationship between the dictator game and the ultimatum game? Discuss what empirical evidence (and the results of Charness and Rabin in particular) suggests about the different possible motives at play in these settings. (18 marks)

Section B: Answer ONE question

5.

(a) What are the main principles of Libertarian Paternalism, and what is Nudge policy? Include reference to an example. (10 marks)

(b) On what basis do Chetty et al (2014) argue that changes in defaults may be more effective than subsidies? (10 marks)

(c) Briefly discuss the three approaches that Chetty (2015) claims are non-paternalistic methods of identifying experienced utility for policy evaluation. (8 marks)

6.

(a) What are the main assumptions of the Expected Utility Theory (EUT)? (6 marks)

(b) What is the Allais Paradox? Show with an example how it violates the independence axiom. (8 marks)

(c) How does the Prospect Theory differ from the EUT? Explain with reference to the paradox mentioned in part (b). (14 marks)

7.

(a) Explain how sophisticates can mitigate self-control problems. (8 marks)

(b) You are trying to encourage savings behaviour in your community. Suggest a commitment device that is likely to promote such (saving) behaviour. (6 marks)

(c) Justify your answer based on empirical evidence covered in the lecture. (14 marks)

8.

(a) Explain what analytical game theory predicts for the Minimum Effort coordination game in Goeree and Holt (2001). How does this differ from observed behaviour? (8 marks)

(b) In what way do empirical results from the centipede game contradict the predictions of backwards induction with strictly payoff-maximising agents? (6 marks)

(c) How do Crawford et al (2008) explain the pattern of miscoordination they observe when introducing asymmetric payoffs to coordination games? (14 marks)