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Risk aversion and embedding bias

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Abstract
In Selten (1967) “Strategy Method,” the second mover in the game submits a complete strategy. This basic idea has been exported to nonstrategic experiments, where a participant reports a complete list of contingent decisions, one for each situation or state in a given sequence, out of which one and only one state, randomly selected, will be implemented. In general, the method raises the following concern. If S0 and S1 are two different sequences of states, and state s is in both S0 and S1, would the participant make the same decision in state s when confronted with S0 as when confronted with S1? If not, the experimental results are suspect of suffering from an “embedding bias.” We check for embedding biases in elicitation methods of Charles Holt and Susan Laury (Laury and Holt, 2000, and Holt and Laury, 2002), and of the present authors (Bosch-Domènech and Silvestre, 1999, 2002, 2006a, b) by appropriately chosen replications of the original experiments. We find no evidence of embedding bias in our work. But in Holt and Laury’s method participants tend to switch earlier to the riskier option when later pairs of lotteries are eliminated from the sequence, suggesting the presence of some embedding bias.

Suggested Citation

  • Antoni Bosch-Domènech & Joaquim Silvestre, 2006. "Risk aversion and embedding bias," Economics Working Papers 934, Department of Economics and Business, Universitat Pompeu Fabra.
    • Handle: RePEc:upf:upfgen:934
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    References listed on IDEAS

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    1. Antoni Bosch-Domènech & Joaquim Silvestre, 2002. "Reflections on gains and losses: A 2x2x7 experiment," Economics Working Papers 640, Department of Economics and Business, Universitat Pompeu Fabra, revised Feb 2005.
    2. Guth, Werner & Huck, Steffen & Muller, Wieland, 2001. "The Relevance of Equal Splits in Ultimatum Games," Games and Economic Behavior, Elsevier, vol. 37(1), pages 161-169, October.
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    4. Bosch-Domènech, Antoni & Silvestre, Joaquim, 2010. "Averting risk in the face of large losses: Bernoulli vs. Tversky and Kahneman," Economics Letters, Elsevier, vol. 107(2), pages 180-182, May.
    5. Steffen Anderson & Glenn Harrison & Morten Lau & Rutstrom Elisabet, 2007. "Valuation using multiple price list formats," Applied Economics, Taylor & Francis Journals, vol. 39(6), pages 675-682.
    6. Charles A. Holt & Susan K. Laury, 2005. "Risk Aversion and Incentive Effects: New Data without Order Effects," American Economic Review, American Economic Association, vol. 95(3), pages 902-912, June.
    7. Jordi Brandts & Gary Charness, 2000. "Hot vs. Cold: Sequential Responses and Preference Stability in Experimental Games," Experimental Economics, Springer;Economic Science Association, vol. 2(3), pages 227-238, March.
    8. Charles A. Holt & Susan K. Laury, 2002. "Risk Aversion and Incentive Effects," American Economic Review, American Economic Association, vol. 92(5), pages 1644-1655, December.
    9. Bosch-Domenech, Antoni & Silvestre, Joaquim, 1999. "Does risk aversion or attraction depend on income? An experiment," Economics Letters, Elsevier, vol. 65(3), pages 265-273, December.
    10. Steffen Andersen & Glenn Harrison & Morten Lau & E. Rutström, 2009. "Elicitation using multiple price list formats," Experimental Economics, Springer;Economic Science Association, vol. 12(3), pages 365-366, September.
    11. John Hey & Jinkwon Lee, 2005. "Do Subjects Separate (or Are They Sophisticated)?," Experimental Economics, Springer;Economic Science Association, vol. 8(3), pages 233-265, September.
    12. Susan K. Laury & Charles A. Holt, 2005. "Further Reflections on Prospect Theory," Experimental Economics Center Working Paper Series 2006-23, Experimental Economics Center, Andrew Young School of Policy Studies, Georgia State University.
    13. Antoni Bosch & Joaquim Silvestre, 2003. "Do the Wealthy Risk More Money? An Experimental Comparison," Working Papers 10, Barcelona School of Economics.
    14. Oxoby, Robert J. & McLeish, Kendra N., 2004. "Sequential decision and strategy vector methods in ultimatum bargaining: evidence on the strength of other-regarding behavior," Economics Letters, Elsevier, vol. 84(3), pages 399-405, September.
    15. Timothy N. Cason & Vai-Lam Mui, 1998. "Social Influence in the Sequential Dictator Game," Monash Economics Working Papers archive-37, Monash University, Department of Economics.
    16. Glenn W. Harrison & Eric Johnson & Melayne M. McInnes & E. Elisabet Rutström, 2005. "Risk Aversion and Incentive Effects: Comment," American Economic Review, American Economic Association, vol. 95(3), pages 897-901, June.
    17. Jeannette Brosig & Joachim Weimann & Chun-Lei Yang, 2003. "The Hot Versus Cold Effect in a Simple Bargaining Experiment," Experimental Economics, Springer;Economic Science Association, vol. 6(1), pages 75-90, June.
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    Cited by:

    1. Mohammed Abdellaoui & Ahmed Driouchi & Olivier L’Haridon, 2011. "Risk aversion elicitation: reconciling tractability and bias minimization," Theory and Decision, Springer, vol. 71(1), pages 63-80, July.
    2. Jordi Brandts & Gary Charness, 2011. "The strategy versus the direct-response method: a first survey of experimental comparisons," Experimental Economics, Springer;Economic Science Association, vol. 14(3), pages 375-398, September.
    3. Aurora García-Gallego & Nikolaos Georgantzís & Ainhoa Jaramillo-Gutiérrez & Melanie Parravano, 2010. "The SGG risk elicitation task:Implementation and results," ThE Papers 10/07, Department of Economic Theory and Economic History of the University of Granada..
    4. Jacquemet, Nicolas & Rullière, Jean-Louis & Vialle, Isabelle, 2008. "Monitoring optimistic agents," Journal of Economic Psychology, Elsevier, vol. 29(5), pages 698-714, November.
    5. Antoni Bosch-Domènech & Joaquim Silvestre, 2006. "Reflections on gains and losses: A 2 × 2 × 7 experiment," Journal of Risk and Uncertainty, Springer, vol. 33(3), pages 217-235, December.
    6. Chen, Daniel L. & Schonger, Martin, 2016. "A Theory of Experiments: Invariance of Equilibrium to the Strategy Method of Elicitation and Implications for Social Preferences," IAST Working Papers 16-54, Institute for Advanced Study in Toulouse (IAST), revised Feb 2020.
    7. Aurora García-Gallego & Nikolaos Georgantzís & Ainhoa Jaramillo-Gutiérrez & Melanie Parravano, 2010. "The lottery-panel task for bi-dimensional parameter-free elicitation of risk attitudes," ThE Papers 10/12, Department of Economic Theory and Economic History of the University of Granada..

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    More about this item

    Keywords

    Embedding bias; strategy method; Holt; Laury; Risk Attraction; Risk Aversion; Experiments; Leex;
    All these keywords.

    JEL classification:

    • C91 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Individual Behavior
    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty

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