Money Matters An Axiomatic Exploration of the Endowment Eect and the Preference Reversal Phenomenon

One of the key ideas of Prospect Theory (PT) (Kahneman and Tversky, 1979), and, perhaps, the less controversial, is that, contrary to what is usually assumed in traditional microeconomics, preferences, and not only choice, may vary with the agent’s current endowment. They are reference dependent. This idea, although only relatively recently introduced in mainstream economics, meets the informal psychosociological intuition that the rich do not behave like the poor. To be sure, this intuition can be formally captured to some extent without introducing an explicit dependence of the utility function on the current endowment. For instance, to account for the fact that rich people are less risk averse than poor people, it suffices, in the context of expected utility, to choose a von Neumann-Morgenstern utility function that is less concave for high wealth than for low wealth. However, this does not capture more radical differences in tastes between the rich and the poor, for instance the changes in tastes that are dictated by the snobbish desire to appear to be a legitimate member of the high society, like the taste for abstract modern art as opposed to more classical forms of art. In behavioral economics, this idea is related to three more precise concepts: loss aversion, the status quo bias and the endowment effect. Loss aversion is a psychological trait that is generally characterized by the oftquoted phrase of Kahneman and Tversky: “losses loom larger than gains”. In other words, a loss of a certain size is perceived as more painful than a gain of the same size is perceived as enjoyable. Formally, if preferences for monetary gains or losses