Where Does the Endowment Effect Come From?
July 9, 2012 1 Comment
One of many notches on the belts of Richard Thaler and Daniel Kahneman is the “Endowment Effect” — the tendency to place a higher value on things you own. Technically, it’s when the price you’re willing to pay for something is less than the price you’re willing to sell it for. You may be guilty of this bias when you decide you prefer the odd-smelling salmon you ordered to the delicious steak on your friend’s plate.
More recently, psychologists have begun digging into the cognitive mechanisms that explain why the endowment effect occurs. One explanation is that it emerges from differences in how buyers and sellers search for information. Research has shown that when you’re the seller (i.e. owner) you tend to first consider reasons to keep the object. When you’re the buyer, you consider the object’s negative qualities first. These differences can be enough to change how a person values an object.
A new study by two psychologists from the University of Basel suggests that the difference in search strategy between buyers and sellers is even more severe. The researchers designed a clever experiment in which participants were asked to name the prices at which they would buy or sell tickets to various lotteries. However, participants weren’t told the lottery odds (e.g. 15% chance of winning $80-$100, 85% chance of $1-$10). Instead, they could run lottery trials in order to infer the value of a ticket. Participants could stop the trials and move on to the next lottery whenever they wanted.
The researchers discovered that the conditions under which people stopped the trials and named a price depended on whether they were buying or selling. Sellers stopped searching for information and quoted a price after a lottery trial ended with a high value. Buyers stopped their search after encountering a low value.
Taken together, the analyses support the hypothesis that asking for a selling or a buying price triggers different stopping behavior in the sampling paradigm. Due to these differences buyers and sellers experience different samples of the lotteries before making a valuation and the resulting differences systematically influence the size of the endowment effect. To the best of our knowledge, the results represent the first demonstration that the endowment effect is preceded by different stopping behaviors by sellers and buyers during information search.
Regardless of whether the person was a buyer or seller, the search was always stopped when a trial helped confirm a lucrative outcome. Because outcomes are different for buyers and sellers, they will encounter different sets of information about an object, and this will cause them to assign it different values.
One neat thing about viewing the endowment effect in this light is that it has a lot of similarities to motivated reasoning. When it comes to information about the value of an object, people tend to place more weight on information that’s lucrative. When it comes to arguments and ideas, people tend to place more weight on statements they already agree with (which are lucrative in a different way). I wouldn’t be surprised if you could run a similar experiment that used beliefs instead of prices. For example, if you had participants read samples from an anonymous writer and then guess the writer’s political ideology, it seems likely that Republicans would be more likely to stop and guess the writer is a Republican after a conservative essay while Democrats would stop and guess the writer is a Democrat after a liberal essay.
Pachur, T. & Scheibehenne, B. (2012). Constructing Preference From Experience: The Endowment Effect Reflected in External Information Search Journal of Experimental Psychology: Learning, Memory, and Cognition DOI: 10.1037/a0027637