Working Paper: NBER ID: w21792
Authors: Jonathan P. Beauchamp; Daniel J. Benjamin; Christopher F. Chabris; David I. Laibson
Abstract: The compromise effect arises when options near the "middle" of a choice set are more appealing. The compromise effect poses conceptual and practical problems for economic research: by influencing choices, it distorts revealed preferences, biasing researchers' inferences about deep (i.e., domain general) preferences. We propose and estimate an econometric model that disentangles and identifies both deep preferences and the context-dependent compromise effect. We demonstrate our method using data from an experiment with 550 participants who made choices over lotteries from multiple price lists. Following prior work, we manipulate the compromise effect by varying the middle options of each multiple price list and then estimate risk preferences without modelling the compromise effect. These naïve parameter estimates are not robust: they change as the compromise effect is manipulated. To eliminate this bias, we incorporate the compromise effect directly into our econometric model. We show that this method generates robust estimates of risk preference parameters that are no longer sensitive to compromise-effect manipulations. This method can be applied to other settings that exhibit the compromise effect.
Keywords: risk preferences; compromise effect; econometric model; experimental economics
JEL Codes: B49; D03; D14; D83; G11
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| bias toward choosing options in the middle of a choice set (D91) | estimation of risk preferences (D81) |
| not controlling for the compromise effect (D79) | highly sensitive estimates of risk preferences (D81) |
| compromise effect (D91) | distortion of measurement of deep preferences (D11) |
| compromise effect (D91) | bias toward choosing options in the middle of a choice set (D91) |
| incorporating the compromise effect into the econometric model (C59) | robust estimates of risk aversion and loss aversion (D81) |