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Heuristics, Biases, and the

Context of Judgments

Dr. Kelly Haws

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Key Questions

What are some known ways in which ourdecision making is biased?

How can an understanding of these biases aids

marketers/consumers? What is good decision making?

How does prospect theory affect our judgments?

How can simple aspects of a retail or decisionenvironment have a dramatic impact on ourconsumption decisions?

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Readings

Nudge, Chapter 1, Biases and Blunders, pp. 15-39. (Course pack pp. 110-121) TEAM

Why Smart People Make Big Money Mistakes,

Chapters 2 & 5, When Six of One Isnt Half aDozen of the Other, and Anchors Aweigh, pp.51-59 and 129-135. (Course pack pp. 122-130)

Paradox of Choice, Chapter 4, When Only the

Best Will Do, pp. 77-96. (Book) Why We Buy, Chapters 3 and 4, The Twilight

Zone and You Need Hands, pp. 45-59. (Book)

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BehavioralEconomics &

Consumer Decision-Making

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Our decision-making processes mightnot be as perfect as we think

Lets take acloser look.

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Do we experience decision illusions in

the same way we experience optical

illusions?

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If we make persistent errors in thingswe are very good at like numbers,letters, colors, and shapes

how likely is it that we are alsosubject to persistent, predictable

errors in areas of consumerdecision-making?

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Heuristics and Biases

Heuristics are decision making shortcuts that

help us make quick and easy decisions

Biases occurs when these quick and easy

decisions are not optimal.

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Context of Judgments:

Prospect Theory

(Kahneman & Tversky 1979)

People dont follow a traditionally rational theory

of choice

It applications include: Framing

Loss Aversion

The Endowment Effect

Reference points

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Prospect Theory(Kahneman & Tversky 1979)

We will begin looking at this theory today, and then

continue over the next couple of weeks.

XX

But first, the basics

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Loss aversion and framing

If the same choice is

framed as a loss,

rather than as a

gain, differentdecisions will

be made.

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When an investor

sells a losing stock,

she is committing tothe loss.

Does loss aversion

cause investors tohold losing stocks

longer than winning

stocks?

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THE CONTEXT OF JUDGMENTS

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Although students were reminded thatthe social security number is a randomquantity conveying no information,those who happened to have high

social security numbers were willingto pay much more for the products.

Ariely, D. (MIT), Lowenstein, G. (Carnegie Mellon), & Prelec, D. (MIT), 2006, Tom Sawyer and the construction

of value. Journal of Economic Behavior & Organization, 1-10.

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Experiment:

Business students were told theirprofessor would be doing a 15-minute poetry reading. Half were

asked if they would be willing topay$2 to attend and half wereasked if they would be willing toattend if they were paid $2. Afteranswering, students were then told

that the poetry reading would befree and were asked if they wantedto attend.

Question:

Would the initial anchoring of theexperiences value affect whowould attend for free?

Ariely, D. (MIT), Lowenstein, G. (Carnegie Mellon), & Prelec, D. (MIT), 2006, Tom Sawyer and the construction

of value. Journal of Economic Behavior & Organization, 1-10.

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Perhaps

students

were just

using price

as an

estimate ofunknown

quality?

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Williams-Sonoma, a mail-order andretail business located in SanFrancisco, used to offer one homebread maker priced at $275. Later, a

second home bread maker wasadded, which had similar featuresexcept for its larger size.The newitem was priced more than 50%higher than the original bread maker.

Williams-Sonoma did not sell manyunits of the new (relativelyoverpriced) item, but the sales of theless expensive bread maker almostdoubled.

Simonson, I. (Stanford), 1999, The effect of

product assortment on buyer preferences,

Journal of Retailing, 75(3), 347-370.

When bread makers were new

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Producers want to

anchor to a higher

priced alternative

Even if it means creating

an artificial alternative

Producers avoid

anchoring to a lower

priced alternative

Differentiation is key

If we anchored Starbucks coffee

by Dunkin Donuts coffee, would

we buy Starbucks?

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