Working Paper: NBER ID: w20240
Authors: John Komlos
Abstract: According to the endowment effect there is some discomfort associated with giving up a good, that is to say, we are willing to give up something only if the price is greater than the price we are willing to pay for it. This implies that the indifference curves should designate a reference point at the current level of consumption. Such indifference maps are kinked at the current level of consumption. The kinks in the curves imply that the utility function is not differentiable everywhere and the budget constraint does not always have a unique tangent with an indifference curve. Thus, price changes may not bring about changes in consumption which may be the reason for the frequent stickiness of prices, wages and interest rates. We also discuss a multiple period example in which the indifference map shifts as the reference point shifts implying that the curves cross over time even though tastes do not change.
Keywords: endowment effect; indifference curves; consumer behavior; behavioral economics
JEL Codes: A2; D03; D11
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| endowment effect (D11) | discomfort associated with giving up a good (D11) |
| discomfort associated with giving up a good (D11) | willingness to part with a good only if compensated by a price greater than acquisition cost (D41) |
| endowment effect (D11) | consumer behavior and decision-making (D91) |
| current level of consumption (E21) | kinks in indifference curves (D11) |
| kinks in indifference curves (D11) | affects utility function's differentiability (D11) |
| changes in consumption relative to reference point (D11) | loss in marginal utility from giving up a unit of a good is greater than utility gained from acquiring it (D11) |
| loss in marginal utility from giving up a unit of a good is greater than utility gained from acquiring it (D11) | creates a steeper slope in the indifference curves in certain quadrants (D11) |
| shifts in behavioral indifference curves over time (D11) | affects consumption bundles even in absence of changes in prices or preferences (D11) |
| shifts in behavioral indifference curves (D11) | explains observed stickiness in economic variables (C54) |