A Reference-Dependent Representation with Subjective Tastes

Abstract

Experimental and empirical evidence documents instances where the presence of an inferior option in a menu increases the attractiveness of the better options from that menu and thus distorts the normative ranking across menus. We analyze the case when besides this so called context e¤ects bias there is also a concern for ‡exibility in the spirit of the literature initiated by Kreps (1979) and Dekel, Lipman and Rustichini (2001). Since the context e¤ects bias and the desire for ‡exibility both increase the inclination of a decision maker to choose larger menus, the analysis allows the disentangling of the e¤ect of the behavioral bias from the e¤ect of the rational desire from ‡exibility. We …nd a weak condition on the set of ex post preferences under which the two e¤ects are identi…able. We show that our representation is essentially unique.JEL Clasi¢ cation: D11