WORKING PAPERS
A Model of Focusing in Economic ChoiceAbstract:
We present a generally applicable theory of focusing based on the hypothesis that a person focuses more on, and hence overweights, attributes in which her options differ more. Our model predicts that the decisionmaker is too prone to choose options with concentrated advantages relative to alternatives, but maximizes utility when the advantages and disadvantages of alternatives are equally concentrated. In intertemporal choice, the decisionmaker exhibits present bias and time inconsistency when -- such as in lifestyle choices and other widely invoked applications of hyperbolic discounting -- the future costs of current misbehavior are distributed over many dates, and the effects of multiple decisions accumulate. But unlike in previous models, (1) present bias is lower when the costs of current misbehavior are less dispersed, helping to explain why individuals respond more to monetary incentives than to health concerns in harmful consumption; and (2) time inconsistency is lower when the ex-ante choice integrates fewer decisions with accumulating effects. In addition, the agent does not fully maximize welfare even when making decisions ex ante: (3) she commits to too much of an activity -- e.g., exercise or work -- that is beneficial overall; and (4) makes "future-biased" commitments when -- such as in preparing for a big event -- the benefit of many periods' effort is concentrated in a single goal.
(with Ádám Szeidl). Revised March 2012. Older version.
A Failure of the No-Arbitrage
PrincipleAbstract:
Underlying the principle of no arbitrage is the assumption that markets eliminate any opportunity
for risk-free profits. In contrast, we document a pricing mistake by a $200 million
company that allowed investors a guaranteed return of 25.6% in a few days, and that resulted
in less than $60,000 being invested into exploiting the opportunity.
(with Kristóf Madarász and Máté
Matolcsi). Appendix.
Revised September 2007.