experimental project complete[1]

8/9/2019 Experimental Project Complete[1]

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Table of Contents

Introduction ................................ ................................ ................................ .......................... 3

Theoretical Formulation ................................ ................................ ................................ ........ 3

Domain of the theory of Individual Choice ................................ ................................ ............. 6

Experimental Design ................................ ................................ ................................ .............. 7

Incentives ................................ ................................ ................................ .............................. 7

Time Constraint Treatments ................................ ................................ ................................ .. 9

Revealing Choice ................................ ................................ ................................ ................. 10

Sampling ................................ ................................ ................................ ............................. 11

Pilot................................ ................................ ................................ ................................ ..... 12

Instructions for Treatment 4 ................................ ................................ ................................ 13

Control Questions ................................ ................................ ................................ ............... 16

Experimental Layout ................................ ................................ ................................ ............ 17

Implications of the Theory ................................ ................................ ................................ ... 19

Bibliography ................................ ................................ ................................ ........................ 21


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Introduction

In his seminal work Krugman (1979)the basic model of international trade showed how

consumers could benefit from the import of varieties with lower tariffs and Romer (1994), in

a simple extension that allows for the fixed costs of entering foreign markets, showed that a

fall in tariffs would in fact lead to an increase in the number of varieties. The benefit of lower

prices is obvious enough but is the benefit of increased choice so straightforward. Broda and

Weinstein (2006) focus on the gains of the lower prices and estimate that the welfare gain

to US consumers between 1972 and 2001 was 2.6%.

Monetary gains may indeed be greater, but there are many costs in the form of increasing

the complexity of the decision making process that are unaccounted forand might provide

key arguments against the reduction of tariffs past a certain point. In this paper we attempt

to investigate these costs in an experimental setting.

Theoretical Formulation

It is a common assumption that increased choice is always better for consumers under the

theoretical framework of rational choice. Consumers have the ability to choose the optimal

choice for themselves regardless of the amount of choice. We argue that this may not be the

case by adopting the concept of bounded rationality. The authors believe this to be a more

realistic assumption that believes individuals to be intendedly rational but frequently unable

to practically carry out the optimisation calculation due to cognitive limitations and time

constraints. Because of these limitations these decision-makers apply their rationality only

after they simplify the choices as much as they deem to be necessary. This takes economics

down the path of satisficing rather than optimising, meaning the decision maker will look to

pass a threshold of values which may not necessarily be maximising.


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If this is a more accurate model of behaviour then we must treat choice differently. The

decision to increase choice is made by the individual, but for the individuals who do not

demand the choice it creates an unnecessary cost. This cost is the complication of the

decision making process resulting in a loss of ability to optimise. Our basic premise is that

increased choice imposes an external cost which is unaccounted for by the decision maker,

resulting in excessive consumption of choice.

We live in an era of historically unprecedented choice. Starbucks advertises its 87,000 drink

combinations (Bialik, 2008). The new mini has 40 options, that is 40 factorial possible

combinations. As of the December 2009 there were 18,553 special offers alone in UK

supermarkets (Jamieson, 2009). For a fairly homogenous product such as milk, Tesco stocks

153 different choices. If you exclude the specialist products you still have 69 choices to

make. If you know you want whole milk that is neither organic nor long-life, you still have 11

choices including milk that is sterilised, filtered or from a cow in the Channel Islands

(MySupermarket, Find Milk in Tesco, 2010). Its remarkable that we can make this choice not

just with this product but with countless others, and the choices become harder for more

infrequent purchases for instance toothpaste, which incidentally comes in 119 different

varieties! (MySupermarket, Find Toothpaste in Tesco, 2010) Nevertheless we manage to

come out of the supermarket having, according to traditional economic theory, solved

countless optimisation problems. We seem to know our preferences well, however these

are decisions we face every day, in other situations we dont fare so well.

Research by Johnson and Goldstein (2003) show that a significant difference is made by

whether an organ donor scheme is opt in or opt out. There is a gap of nearly 60% between

the uptake of the two schemes with the opt out scheme achieving far higher rates of

donation. This is an example of a decision we make far less frequently. The rational view of

behaviour struggles to explain this result as it believes the decision maker to have complete


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and existing preferences. The default choice should have no effect on the decision maker.

This introduces another theory of preferences where they are constructed as and when the

decision needs to be made.

Many researchers believe in a combination of these two theories, that preferences are

constructed when we make decisions for the first time and with experience they we gain a

stable set of preferences. The previous two examples illustrate this view. However some

decisions can be so complex that regardless of our experience in them we can still struggle

to make rational choices.

Redelmeier and Shaffir (1995) conducted an experiment that gave two groups of physicians

a scenario to treat a patient. The first group had the choice of one medication or no

treatment. The second group had the same scenario but with an additional medication to

choose from. 72% of the second group choose to give the patient no treatment compared

with 53% of the first group. This disparity is caused by the additional complexity. Complex

decisions induce a cognitive bias that creates a tendency to avoid or delay making a decision.

In complex situations we apply heuristic based techniques taking any clues available from

either default options or avoid the situation entirely. This can impair the decision makers

ability at achieving the optimal outcome. This is backed up in a study by Aimee Drolet, Mary

Frances Luce, and Itamar Simonson (2009) that finds that cognitive load increases the use of

heuristic methods in decision making resulting in potentially sub-optimal outcomes.

Time constraints have the effect of increasing the complexity of a decision. Our experiment

will look to investigate the complexity of increased choice in the presence of time

constraints.


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Domain of the theory of Individual Choice

That more choice is good for consumers is a theory without bounds for those who believe in

freedom as the ultimate aim, namely liberals. As liberals, we take freedom of the individual,

or perhaps the family, as our ultimate goal in judging social arrangements (Friedman, 1962).

It is so embedded in the conventional wisdom that there is no need to justify its virtue

Denationalizing schooling would widen the range of choice available to parents

(Friedman, 2005). The exception of freedom of choice is the special case where the

voluntary exchange affects a third party. (Friedman, 1962)

The difficulty in establishing a domain for freedom of choice is that it is so much a part of

conventional wisdom that nobody seeks to justify or define its limits. Since there is no

reason for us to believe otherwise and since there is no mention of the negative externalities

of choice in the literature then we can assume that the voluntary exchange of increased

choice is believed to be universally beneficial.

Yet others may argue that only the free market maximises individual choice in a way that we

can value. Faced with the evidence of our experiment this implies that the market has a

special way of internalising these costs, at the least we may force them to produce an I-

domain contraction defence to have to explain this process. The difficulty of creating a

market to determine the choice our participants are faced with in a laboratory setting will

leave scope for field tests to test the presence of this mechanism.


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Experimental Design

We will conduct an experiment to test the theory that more choice is always better.

We decided to make the decision as simple as possible but with realistic constraints such as

time and space which will be discussed under time constraints and revealed choice below. To

do this we have decided to make the decision between assets where the cost and value is

given in GBP so the optimal value is the one with the highest profit, where profit = value

cost. The fact that we have used monetary values instead of actual choices as some

psychologists do is that we can avoid the difficulty of determining an optimal choice as

preferences for money are universal since it is nothing more than a medium of exchange.

More money is better so the highest profit is optimal. It has the added benefit of being as

simple a decision as possible so by applying realistic assumptions if we can show that our

ability to make the simplest of decisions can be affected by excessive choice then we leave

less room for the theorists to manoeuvre around the evidence.

There will be eight groups of participants. Groups 1-4 will face a small set of choices with

each group facing one of four treatments which will be discussed below. Groups 5-8 will face

a large choice set and each face one of the same four treatments. The task of choosing the

optimal asset will be repeated 5 times for each group.

Incentives

The incentive for taking part in the experiment will comprise of two distinct parts. The first

part, participation fee, will be given for being a participant and is not results based so

regardless of performance in the experiment it cannot be lost. The second part will be based

on performance in the experiment.


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The necessity of having a task-related payment is to try and replicate the real life

consequences of choices. It has been argued by Camerer and Hogarth (1999) in their Capital-

Labour-Production framework or CLP that the effort spent to decide is a finite resource. In

this framework the participant is the labour and the capital is their knowledge the

production being the outcome of the task they are performing, so in order to get them to

put in effort they must be compensated for using up their resources. This is substantiated by

Libby and Lipe (1992) who found that levels of effort, measured in time spent on decision

making, were significantly higher for performance related pay over a flat fee. Grether and

Plott (1979) believe that data produced by experimentation is only relevant if it is based on

decisions that "matter" which, by adding task-related payoffs, they do. Furthermore in the

case of this experiment the modelling of decision making requires different payoffs

dependent on choices made as this is the case in real life. If task-related payments were not

used then participants would be taking part for the "intrinsic value" or as they enjoy it rather

than the "extrinsic value" of taking part as a means to achieve/gain something as stated by

Bardsley, Cubitt, Loomes, Moffat, Starmer and Sugden (2010).

The level of task-related payments is important. It has been found that task related

payments cause performance to improve but only up to a certain level (Gneezy & Rustichini,

2000) after which it flattens out. They also found that performance deteriorates between no

pay and very low pay before increasing again through moderate and high pay. This suggests

that the swapping of people with high intrinsic motivation taking part in the experiment for

their own enjoyment with those with low levels of extrinsic interest decreases overall

performance probably due to a mixture of those with high intrinsic motivation losing part of

their incentive to take part and the influx of those who are doing it for the payoff, which isn't

high enough for them to put in large enough cognitive effort. The level of the first payment

must compensate for time lost by taking part. The possible size of the second part must be

significantly large in comparison to the participation fee and the opportunity cost of time so


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that the incentive remains to find the optimal choice rather than to get through the

experiment as fast as possible to leave with the participation fee. This is based on the

assumption that more money is preferred to less money. This assumption also removes the

possible problem of constructing preferences as larger amounts of money are already

preferred.

The final consideration of payoffs is distribution. Glenn Harrison (1989, 1992, 1994) suggests

in his flat maximum critique that a reward structure that has a large number of similar

choices around the optimal choice will lead to participants choosing a non-optimal result as

due to the fact that decision making takes effort if they see many choices with similar profit

to them they will choose any option in order to avoid expending effort to find the true

optimal choice. This is challenged however by Moffat (2005) who found that effort

measured using decision times, a measure used by Wilcox (1994), Rubenstein (2007) and

Hey (1995) in previous papers, the time/effort spent by a person choosing between two

close lotteries was twice as long as for lotteries that were further apart.

Time Constraint Treatments

The first of our attempts to apply realistic conditions into our experiment is the presence of

a time constraint. In the real world none of our decisions are made in the absence of a time

constraints but often there is more than one type of constraint present. We have simplified

these constraints into 3 categories from which we create Treatments 1-4.

Treatment 1 is decision making in the presence of no time constraint this is when, this is a

category of decisions where it is sufficiently important relative to your other choices to

spend as long as it takes to make the right decision. This is likely to be more frequently

observed among certain groups and in certain periods such as students in summer holidays

as their supply of time is generally large relative to any choices they have to make so they


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can spend as long as they want on a choice (e.g. choosing the optimal mobile phone contract

for themselves).Treatment 2 is the presence of a time limit where there is a certain time

period to make a decision, for example going shopping for a certain product when you have

a doctors appointment later in the day. We will recreate this by providing a percentage

bonus for completing a decision sooner. Treatment 3 is the constraint present when many

other activities and choices are competing for your attention. The longer you spend on one

choice the less time you have to spend on other tasks i.e. the opportunity cost of spending

longer on making a choice. Treatment 4 is just a simple combination of both time constraints

used in treatment 2 and 3.

The difficulty we face is deciding upon the appropriate level of time constraint. The pilot will

help us to test whether it was sufficiently constrained to prevent participants having as

much time as they need to make the decision. We concluded that this provides no

restrictions on the domain of the theory as rational choice assumes that as rational agents

participants should be able to optimise regardless of time constraints as preferences are

complete and existing.

Revealing Choice

The initial screen of choices will not reveal the vital details required to make the decision.

The cost and value needed to determine the profit will be revealed only after pressing a

button and will produce a 5 second delay. This will represent the realistic assumption that it

requires a certain amount of effort to find the choices available in making a decision they are

not just displayed in front of us. It also prevents participants from revealing boxes

instantaneously and gives them the chance to think about whether they want to spend time

revealing another box or whether they should accept the most optimal choice they have

revealed. This is a particularly useful function for treatment 3, making them consider to


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continue looking when there is the percentage bonus they can receive for completing their

decision in a shorter time. It does not violate the domain of the theory as rational choice

sees places no requirements for all choices to be displayed and in any case this is not a

realistic assumption for transactions in the real world.

Sampling

The participants for the experiment would be students. This is due to the low cost and

convenience of students as a group, the fact that they are in the vicinity of where the

experiment would be carried out. Friedman and Sunder (1994) say that undergraduate or

graduate business or economics students have been the most commonly used group in

experimental studies, due to their particular availability, and are better than Phd students

due to the belief that doctoral students have too great a knowledge of theory, they may

guess what the experiment has been designed to test and may behave to what they believe

theory suggests they should do rather than simply to the incentives provided. Some studies

(Cunningham, Anderson, & Murphy, 1974) and (Enis, Cox, & Stafford, 1972) have expressed

doubts about using students as a population to test from as they are too small and special a

section of the population. They are likely to be more literate, numerate and skilled in use of

statistics than the general population. (Friedman & Sunder, 1994) However in this particular

experiment none of these qualities are of great importance. The calculation of optimal

choice by finding the difference between two reasonably close values does not require the

participant to be highly numerate.

The gender of those in the sample should not matter as "economic theory is free of gender

and sex" (p44 Friedman and Sunder). There have been results in fields of psychology that

have indicated gender differences but economics studies, including one by Brown-Kruse and

Hummels (1990), have tended to find the difference between the sexes to be negligible.


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Pilot

We will run a pilot experiment with participant feedback to try and detect any of the

following errors in our design:

y The clarity of the instructions including grammatical/spelling errorsy The appropriate size of the payoffs.y The appropriate size of the participation feey The ability of the time constraint to producing realistic behavioury The ease of use of the experiment in particular the method of revealing choices.

To keep costs to a minimum we will use friends and volunteers as participants in the pilot as

is commonly done. Participants will be provided with paper to make notes about the

experiment if they encounter problems. All comments will be considered and any adaptation

of the experiment will take place.


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Instructions for Treatment 4

Note: Instructions for treatment 1 ignores all mention of time constraints, treatment 2

ignores all mention of percentage bonuses, and treatment 3 ignores all mention of a time

limit.

Welcome to todays experiment. You will be expected to complete four tasks relating to

choice, depending on your decisions you will have the opportunity to earn money which will

be paid to you in cash immediately after the experiment. This sum will be in addition to the

participation fee of ... It is important to note that there are no right or wrong ways to

complete the experiment, but the decisions that you take will have implications for what you

are paid at the end of the experiment. Please make sure that you read the instructions

carefully so you have a better understanding of how to appropriately carry out this

experiment.

At the end of the experiment you will be asked to complete a brief questionnaire and to sign

a receipt for the payment that you received, and to acknowledge that you participated

voluntarily in the experiment. The results of the experiment will be used for the purpose of

academic research and will be published and used in such a way that your anonymity will be

preserved.

Overview

y You should try and maximise your payment from participating in this experiment -by decisions that you take.

y You will be choosing between assets where their cost and value is given to you. Theprofit you make will be the value-cost, the higher the profit the better.


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You can see that choice A and D have been revealed but to reveal choices B and C you must

press the button reveal choice. For the two revealed choices value is greater than the cost,

we can see that the profit of choice A is 45-40=5 and the profit of choice B is 33-

32=1. The participant must then make the option about whether to reveal further choices

or accept the highest profit (in this case 5). You must however pay attention to a further

consideration that is time

Time will affect you in the following two ways:

Time limit

There will set amount of time for the participants to choose optimally. This will be displayed

in the top right hand corner of your screen and will count down to zero. If participants fail to

choose an optimal choice before the countdown timer reaches zero then they will receive no

profit.

Percentage bonus

Participants will have a chance to gain more money by choosing faster. In the top left hand

corner there will be a timer that counts down from 1 to 0 in 0.1 increments. The timer will

stop when you have made your choice and this will be multiplied by your profit and added

on as a bonus.


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Experimental Layout

(With Choices Revealed)

Less choice screen

Cost: 40 Cost: 6 Cost: 1099 Cost: 32 Cost: 100

Value: 11 Value: 3 Value: 1056 Value: 33 Value: 99



More choice screen










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Implications of the Theory

To furnish a barren room is one thing. To continue to crowd in furniture until the

foundation buckles is quite another. To have failed to solve the problem of producing goods

would have been to continue man in his old and most grievous misfortune. But to fail to see

that we have solved it, and to fail to proceed thence to the next tasks, would be fully as

tragic. (Galbraith, 1958)

This characteristically eloquent quote by John Kenneth Galbraith on economic growth runs

in the same vein as our research. To seek more choice is not, in and of itself, a desirable goal

but only insofar as it has the ability to improve our lives.

Our theory that choice is an externality has important implications for policy. Just as the

Greenwald-Stiglitz theorem proved the presence of asymmetric information in all markets

thus disproving the existence of a perfect competitive market (Greenwald & Stiglitz, 1986),

our theory would prove the presence of externalities in every market and thus disprove the

existence of a perfectly competitive market. It also has important implications for

international trade theory

In particular, returning to our the work of Krugman and Romer cited at the beginning of this

paper on international trade and the increase of choice, tariffs can now be seen as a tax on

increased choice or, economically speaking, a pigovian tax. The reduction of tariffs and

subsequent increase of choice will only be beneficial up to the point that tariffs are equal to

the external cost of increasing choice.

There is much scope for further research to determine the precise costs of choice and the

optimal level of tariffs. There are many other costs to higher choice such as less physical

stamina, reduced persistence in the face of failure, more procrastination, and less quality

and quantity of arithmetic calculations (Vohs, Schmeichel, Nelson, Baumeister, Twenge, &


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Tice, 2008). Interestingly the same research finds that thinking about choices causes virtually

none of the mental exhaustion that actually making the choices does, which may explain

why we struggle to understand how we might struggle to make the right choice. These

further psychological costs of choice leave scope for further research into their effect and

may seem like a venture well suited to the developing study of neuroeconomics, although

any results must be treated with an appropriate level of cynicism as the field is still in its

infancy and many are still unsure as to whether it can add anything to our understanding.


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experimental project complete[1]

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