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A theory of reference point formation

Özgür Kıbrıs (), Yusufcan Masatlioglu and Elchin Suleymanov

Economic Theory, 2023, vol. 75, issue 1, No 6, 137-166

Abstract: Abstract We introduce a model of reference-dependent choice where the reference point is endogenously determined through maximization of a conspicuity ranking. This subjective ranking captures how prominent or eye-catching the alternatives are relative to one another. The most conspicuous alternative in a choice set serves as the reference point and in turn determines the reference-dependent utility function the decision maker maximizes to make a choice. We show that this conspicuity based endogenous reference model (CER) is characterized by an intuitive and simple behavioral postulate, called the Single Reversal, and we discuss how choice data can be used to reveal information about CER’s parameters. We additionally analyze special cases where a reference-free utility function, combined with psychological constraints, is used to make reference-dependent choices.

Keywords: Conspicuity; Reference-Dependence; Reference point formation; Revealed preference; Psychological constraints; Choice reversal (search for similar items in EconPapers)
JEL-codes: D01 D11 (search for similar items in EconPapers)
Date: 2023
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DOI: 10.1007/s00199-021-01392-3

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