A Model of Reference-Dependent
Preferences
Michele Corvo
The Purpose of the Paper
INTEGRATED MODEL OF CONSUMPTION AND REFERENCE-DEPENDENT GAIN-LOSS UTILITY
MODEL APPLICABLE NOT ONLY TO SPECIFIC CONTEXTS
Basic Concepts
Reference-dependent preferences: when utility from an outcome depends on comparisons to
relevant “reference levels” or “reference points”
2%
4%
Basic Concepts
Loss aversion: people dislike losses relative to the reference point more than they like samesized gains.
2%
Utility
The Basic Framework
U(𝑐|𝑟) = 𝑚 𝑐 + 𝑛(𝑐|𝑟)
= 𝜇(𝑚 𝑐 − 𝑚(𝑟))
CONSUMPTION
UTILITY
GAIN-LOSS
UTILITY
What is the point of reference?
BEFORE
• More focus on what is the difference in
utility in relation to different reference
points;
• Status-quo theory of the reference
point: it means that people takes for
reference point the previous condition.
NOW
• The reference point is the
PROBABILISTIC BELIEF about the
outcome and this probability is assigned
in relation to recent expectations by
each individual;
• Integration with the status-quo theory;
• Concept of PERSONAL EQUILIBRIUM: a
person correctly predicts both the
environment she faces and and her own
reaction to this environment and
maximizes her utility based on these
expectations.
Further analysis
DIFFERENT FIELDS OF APPLICATIONS
BUT NOT STILL UNIVERSAL
PEOPLE DON’T ALWAYS INTEGRATE EVENTS AND DECISIONS
EXPECATIONS INFLUENCED BY OTHER FACTORS
THANK YOU FOR YOUR ATTENTION
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