Experimental and Behavioral Economics

Daniel Schoch Nottingham University Malaysia Campus Fall 2012

Content
1. Module Structure 2. Why do we do experiments? 3. Types of experiments 4. Setting up an experiment 5. Example: Lottery choice

1. Module Structure
The Module has roughly 4 parts 1. How to conduct an experiment 2. Decisions under risk and uncertainty 3. Altruism 4. Incentives and competition

Module Structure and Assessment

12 Weeks a 2 hours lecture. Last lesson will be a clinic (Week 14) Exam 75%, Group Essay 25% Optimal Group Size 3-5

2. Why do we do Experiments?
In the real world we can not control variables, neither can we wait for all possible congurations to happen. E.g. the eighties were a prosperous decade for the USA. Was it because of Reaganomics or general economic conditions? Think tanks and politicians like to draw conclusions which are not valid out of sample. The led people question the status of economics as a scientic enterprise.

Testing Theory
Economics mainly works "top down" from theory to conclusion. "Microfounded" theories help understanding economic processe by actions of agents. However, the classical perfect rationality assumption "homo economicus" does not t to real people.

Critical Rationalism
Sir Karl Popper (1902-1994) was somewhat the "house philosopher" of many economists. In a nutshell, his critical rationalism claims that progress in science is only through strict tests of theories (latter come before data).

Anti-Post-Modernism
Many "hard scientists" like physicists are close to critcal rationalism in agreeing that science is a rational enterprise, not social construction. They mock postmodernism sociology as pseudo science. Sokal hoax: Mock paper accepted by "Social Text"

Fallibility
More observation does not nally lead to sincerity. "...no matter how many instances of white swans we may have observed, this does not justify the conclusion that all swans are white."
Karl Popper, The Logic of Scientic Discovery, Ch. 1 "A Survey of Some Fundamental Problems", Section I: The Problem of Induction, p. 27

Mock Conrmation
As for Adler, I was much impressed by a personal experience. Once, in 1919, I reported to him a case which to me did not seem particularly Adlerian, but which he found no difculty in analyzing in terms of his theory of inferiority feelings, although he had not even seen the child. Slightly shocked, I asked him how he could be so sure. "Because of my thousandfold experience," he replied; whereupon I could not help saying: "And with this new case, I suppose, your experience has become thousand-and-one-fold."
Karl Popper. Conjectures and Refutations: The Growth of Scientic Knowledge (1963)

Testability
Since we can not reach certainty, the best we can do is test our theories as hard as possible. Minimize Type I Errors (accepting false theories) Thus choose the best testable theories The less independent variables a theory has, the better is it testable.

Laboratory Experiments
Control as much variables as you can and isolate data from "contamination". This is best done in a laboratory. Concentrating on one specic behavioural situation gives results which can be transferred and applied to different elds of economics.

Field Experiments
Sometimes "controlled variation" happens or an institution is implemented. E.g. political events, political institutions, selforganization of people. Example: Do people donate more to a charity if they receive a gift?

3. Types of Experiments
Risk and Uncertainty: Lottery Choice Altruism: Dictator Games, Ultimatum Games, Public goods, Charity Incentives and Competition: Trust Games Market Games and Auctions Institutions

Dictator Games

Ultimatum Games

Behavioural Economics
Integration of psychological insights into economic research (risk, welfare, reasoning about decisions, discounting future events) Standard economics assumptions (people are rational expected utility maximizers, selsh, perfectly rational and discount future events exponetially) Behavioural Economics asks how realistic these assumptions are

4. Setting up an Experiment
Research question Design of experiment Hypothesis Prepare for the experiment Running the eperiment Data analysis Write a paper (dissertation ;-)

Where ?
Classroom (easy, but no anonymity, communication possible) Laboratory (high control, but articial) In the internet (uncontrolled, large number of participants) As part of other surveys (representative, control?) Field (natural environment, replicable? control?)

Running an Experiment
Written neutral (non-associative) instructions with control questions Some effects are very sensitive on mode of presentation (e.g. Dictator games) No deception, do not lie in the instructions Randomly select participants and allocate their roles Do not let participants know each other roles, if that is not part of the design and question

Control
Environment (lab, monetary rewards) Actions and framings Few unobservable variables, change only one thing at a time Information condition controlled by experimenter Experimenter should know equilibria

Randomize
Randomize as much as possible: Teatment in which session Allocations to seats/computers Role and group allocation Randomize whom to invite Gender balance

5. Example: Lottery Choice

A lottery is a set of outcomes (normally money) under some probabilities Uncertanty (as opposed to risk): Probabilities unknown Framing as wins or losses Monotonicity assumption: More is better, higher probability of better outcome is better.