ECON30019 Chap.12 Framing, the Reflection Effect and Prospect Theory
Framing, the Reflection Effect and Prospect Theory
Menu dependence changed the options; framing changes only the words. The framing effect is the finding that preferences and choices respond to the way options are described, and in particular to whether they are described in the gain frame or the loss frame.
The benchmark deserves care: expected utility theory leaves your appetite for risk entirely open, but it does say your choice should reflect your utility function and therefore should not depend on the description.
The canonical two-frame experiment produces a complete reversal, with a large majority choosing safety when outcomes are described as lives saved and a similar majority choosing risk when the same outcomes are described as lives lost.
The chapter builds the S-shaped value function that captures this, separates the roles of its parameters, and closes with field evidence where the reference point is fixed by the setting rather than by the analyst.
What this chapter covers
- 01
The framing effect, and the three response patterns expected utility allows
- 02
The one pattern it forbids, and why no utility function can produce it
- 03
The two-frame experiment, and the shares that reversed
- 04
The reflection effect: risk attitude flipping across the reference point
- 05
How the wording supplies the reference point in each version
- 06
The three features of the value function, and what each produces
- 07
The functional form, and the separate jobs of its two kinds of parameter
- 08
Locating the reference point in a stated problem, from the verb
- 09
Field evidence with a salient, externally fixed reference point
- 10
Three field results, each with a direction and one with a price
Two framings of one restructure
- 1Read the first board's wording: hours preserved, so its reference point is zero hours preserved and both options are gains.
- 1Apply the curvature: the value function is concave over gains, so this board is risk averse and is predicted to take the certain plan A.
- 1Read the second board's wording: hours lost, so its reference point is nothing lost, the full 900, and both options are losses.
- 1Apply the curvature: the value function is convex over losses, so this board is risk seeking and is predicted to take the gamble, plan D.
- 1Show the distributions are identical: preserving 300 of 900 is losing 600 of 900, and the two gambles are the same lottery.
- 1State the benchmark: expected utility predicts the same choice from both boards whatever their common risk attitude, and the reflection effect contradicts it.
Key terms
- Framing effect
- The finding that preferences and choices respond to the way options are described, and in particular to whether the description is in the gain frame or the loss frame.
- Gain frame
- A description that measures outcomes upward from a zero at the bottom, so that every stated result is an improvement on the reference point.
- Loss frame
- A description that measures outcomes downward from a zero at the top, so that every stated result is a shortfall against the reference point.
- Reflection effect
- The flip in risk attitude as a problem crosses the reference point: risk aversion over gains and risk seeking over losses, in the same person.
- S-shaped value function
- A value function that is concave over gains, convex over losses and steeper on the loss side, so that all three of its features can be read off one curve.
- Decision weight
- The weight a model attaches to a stated probability, used in place of the probability itself once the probability side of expected utility is also repaired.
Framing, the Reflection Effect and Prospect Theory FAQ
What exactly does expected utility forbid here?
Not any particular risk attitude. Three patterns are permitted across two descriptions of the same choice: always the safe option, always the risky option, or indifference. What is forbidden is switching between them when the description changes and the outcomes do not, because no single utility function can assign two different rankings to the same pair of distributions.
Are people simply inconsistent about risk?
No, and describing them that way misses the systematic part. Risk attitude here is domain-specific: consistently averse above the reference point and consistently seeking below it. That is a regularity a model can capture, which is why the reflection effect produced a theory rather than a shrug, and it is the part that carries the marks.
Why is the golf study used rather than another laboratory result?
Because the reference point is fixed by the setting rather than chosen by the analyst. Par is defined by the course, so the theory makes predictions that could have come out the other way. It also comes with a price: players are more cautious on birdie putts, which are less likely to drop, and the paper notes the pattern decreases expected profits.
Exam move
Answer every question in this chapter with the same three lines, in order: the reference point named, the domain each outcome falls in, and the curvature there with its predicted risk attitude. Writing them explicitly protects you against carrying a gain-domain intuition into a loss-domain problem, which is the commonest error here.
Keep the two kinds of parameter separate in your notes, since one controls the kink and hence loss aversion while the other controls the bend and hence risk attitude within a domain. Practise identifying the reference point from wording alone, without any numbers.
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