Topics in Psychology and Economics

Econ 5380 Spring 2015

Venue: LSK Room LSK1032 Instructor: Xiaojian Zhao

Time: Thursday, 14:00-17:50 Office: New Academic Building, Room 6083
Start: Feb 5th Office hour: By Appointment
End: Mar 26th Email: xjzhao@ust.hk
Homepage: http://sites.google.com/site/xjzhao81/

Teaching Assistant
Xianqiang ZOU (xzou@connect.ust.hk)

Course Description
The available evidence in psychology and economics suggests that individuals behaviors deviate from the
standard economic theory systematically. In this course, I will introduce the modern advances in behavioral
economics and bounded rationality, including time inconsistent preferences and self-control, judgment under
risk and uncertainty, imperfect knowledge and social emotions, and show the economic implications of those
psychologically richer models. Meanwhile, we aim to answer the question why individuals are biased, and
tend to find the link of some aspects of psychological regularities. In this part of the course, the students are
expected to read and discuss several papers that attempt to synthesize existing models in psychology and
economics.

Prerequisite
Microeconomic Analysis (Econ 5130) or Microeconomic Theory I (Econ 5210)

Assessment Scheme
Class Participation: 5%
Paper Presentation: 45%

Slides 20%
Presentation 20%
Q & A in class 5%
Final Exam: 50%

Arrangement
Feb 5: Chapter 1, 2.

Feb 12: Chapter 3 and Student Presentation 1.

Feb 26: Chapter 4 and Student Presentation 2.
Topics in Psychology and Economics 2

Mar 5: Chapter 5 and Student Presentation 3.

Mar 12: Chapter 6 and Student Presentation 4.
Mar 19: Chapter 7, 8.
Mar 26: Review Session and Final Exam in room 2404.

Textbook
Zhao X. (2015). Notes on Psychology and Economics, available at lmes.

References

Chapter 1: Introduction - The Caricature of Homo Economicus

[1] Camerer C. (2006). Behavioral Economics, in Advances in Economics and Econometrics: Theory and
Applications, Ninth World Congress, Volume 2, Richard Blundell, Whitney K. Newey, and Torsten
Persson, eds., Cambridge and New York: Cambridge University Press.
[2] DellaVigna, S. (2009). Psychology and Economics: Evidence from The Field, Journal of Economic
Literature, 47, 315-372.

[3] Rabin M. (1998). Psychology and Economics, Journal of Economic Literature, 36, 11-46.

Chapter 2: Rationality and Rationalization of Irrational Behaviors

[4] Kalai G., A. Rubinstein and R. Spiegler(2002). Rationalizing Choice Functions by Multiple Rationales,
Econometrica, 70, 2481-2488.
[5] Rubinstein, A. (1998). Modeling Bounded Rationality, MIT Press.
[6] Sen, A. (1993). Internal Consistency of Choice, Econometrica, 61, 495-521.

[7] Simon, H. (1955). A Behavioral Model of Rational Choice, Quarterly Journal of Economics, 69, 99-118.

Chapter 3: Time-Inconsistent Preferences and Self-Control

[8] ODonoghue T. and M. Rabin (2001). Self Awareness and Self Control. to appear as a chapter in Roy
Baumeister, George Loewenstein, and Daniel Read (eds.), Now or Later: Economic and Psychological
Perspectives on Intertemporal Choice, Russell Sage Foundation Press, forthcoming.
[9] ODonoghue T. and M. Rabin (2006). Incentives and Self Control, in Advances in Economics and
Econometrics: Theory and Applications, Ninth World Congress, Volume 2, Richard Blundell, Whitney
Newey, and Torsten Persson, eds., Cambridge and New York: Cambridge University Press.

[10] Gul, F. and W. Pesendorfer (2001). Temptation and Self-Control. Econometrica 69, 1403-1435.
[11] Laibson, D. (1997). Golden Eggs and Hyperbolic Discounting, Quarterly Journal of Economics, 62,
443-477.
Topics in Psychology and Economics 3

[12] Lipman, B. and W. Pesendorfer (2011). Temptation, mimeo, Boston University.

[13] Spiegler, R. (2011) Comments on Behavioral Decision Theory, in Advances in Economics and
Econometrics: Theory and Applications, Tenth World Congress of the Econometric Society, forthcoming.
[14] Strotz, R. (1955). Myopia and Inconsistency in Dynamic Utility Maximization, Review of Economic
Studies 23, 165-180.

Chapter 4: Social Preferences

[15] Charness, G. and M. Rabin (2002). Understanding Social Preferences with Simple Tests, Quarterly
Journal of Economics, 117, 817-869.
[16] Fehr, E. and K. Schimdt (1999). A Theory of Fairness, Competition and Cooperation, Quarterly
Journal of Economics, 114, 817-868.
[17] Rabin, M. (1993): Incorporating Fairness into Game Theory and Economics, American Economic
Review, 83, 1281-1302.

Chapter 5: Judgment under Risk and Uncertainty

[18] Dekel, E., B. Lipman and A. Rustichini(1998a). Recent Developments in Modeling Unforeseen Con-
tingencies, European Economic Review, 1998, 42, 523-542.
[19] Gilboa, I. and M. Marinacci (2011). Ambiguity and the Bayesian Paradigm, in Advances in Eco-
nomics and Econometrics: Theory and Applications, Tenth World Congress of the Econometric Society,
forthcoming.
[20] Kahneman, D. and A. Tversky (1979). Prospect Theory: An Analysis of Decision under Risk, Econo-
metrica, 47, 263-91.

Chapter 6: Imperfect Knowledge

[21] Aumann, R.J. (1976). Agreeing to Disagree, Annuals of Statistics, 76 (4), 1236-1239.
[22] Dekel, E., B. Lipman and A. Rustichini(1998b): Standard State-Space Models Preclude Unawareness,
Econometrica, 1998, 66(1), 159-173.
[23] Geanakopolos J. (1992). Common knowledge, Bayesian Learning and Market Speculation with
Bounded Rationality. Journal of Economic Perspectives 6, 58-82.

Chapter 7: Cognitive Games

[24] Bolton, P. and A. Faure-Grimaud (2010). Satisficing Contracts,Review of Economic Studies, 77, 937-
971.

[25] Gabaix, X. and D. Laibson (2006). Shrouded Attributes and Information Suppression in Competitive
Markets, Quarterly Journal of Economics, 121(2), 505-540.
Topics in Psychology and Economics 4

[26] von Thadden, E. L. and X. Zhao (2012). Incentives for Unaware Agents,Review of Economic Studies,
79(3), 1151-1174.
[27] Tirole, J. (2009). Cognition and Incomplete Contracts, American Economic Review, 99(1), 265-94.
[28] Tirole, J. (2013). Cognitive Games and Cognitive Traps, mimeo, Toulouse School of Economics.

Chapter 8: The Next - Unifying Economics and Psychology

[29] Fudenberg, D. (2006). Advancing beyond Advances in Behavioral Economics, Journal of Economic
Literature, 44, 694-711.

[30] Harstad, R. and R. Selten (2013). Bounded-Rationality Models: Tasks to Become Intellectually Com-
petitive, Journal of Economic Literature, 51(2), 496-511.
[31] Tirole, J. (2002). Rational Irrationality: Some Economics of Self-Management, European Economic
Review, 46, 633-655.

Student Presentation 1: Consciousness

[32] *1 Aumann, R. J. (2006). Consciousness, Life as We Know It, edited by J.Seckbach, Springer, Dor-
drecht, 555-564.

[33] Draaisma, D. (2004). Why Life Speeds Up As You Get Older: How Memory Shapes our Past, Cambridge
University Press.

Student Presentation 2: Motivated Self-Cognition

[34] * Benabou, R. and J. Tirole (2002). Self-Confidence and Personal Motivation, Quarterly Journal of
Economics, 117(3), 871-915.
[35] Carrillo, D. and T. Mariotti (2000). Strategic Ignorance as a Self-Disciplining Device, Review of
Economic Studies, 67(3), 529-44.

[36] Chew, S.H., W. Huang, and X. Zhao (2014). Selective Memory and Motivated Delusion: Theory and
Experiment, Available at SSRN: http://dx.doi.org/10.2139/ssrn.2127795
[37] Dessi, R. and X. Zhao (2013). Self-Esteem, Shame and Personal Motivation, IDEI Working Paper, n.
639.

Student Presentation 3: Overconfidence?

[38] Benot, J-P. and J. Dubra (2011). Apparent Overconfidence, Econometrica, 79(5), 1591-1625.
[39] * Burks, S.V., J.P. Carpenter, L. Goette, and A. Rustichini (2013). Overconfidence and Social Sig-
nalling, Review of Economic Studies, 80(3), 949-983.
1 Papers with mark * are key papers that are supposed to be presented by a group of students and read by all.
Topics in Psychology and Economics 5

Student Presentation 4: Language, Cognition and Economic Behaviors

[40] * Chen, M. K. 2013. The Effect of Language on Economic Behavior: Evidence from Savings Rates,
Health Behaviors, and Retirement Assets. American Economic Review, 103(2) 690-731.
[41] Hong, F., W. Lim and X. Zhao 2014. An Economic Investigation of Linguistic Differences: Theory
and Experiment. mimeo, Nanyang Technological University and Hong Kong University of Science and
Technology..

Supplementary Survey Papers

[42] Camerer, C., G. Lowenstein, and D. Prelec (2005), Neuroeconomics: How Neuroscience Can Inform
Economics, Journal of Economic Literature, XLIII, 9-64.
[43] Dekel, E. and F. Gul. (1996). Rationality and Knowledge in Game Theory, in Kreps and Wallis (eds.),
Advances in Economics and Econometrics: Theory and Application, vol. I, Cambridge: 87172.
[44] Elster, J. (1998). Emotions and Economic Theory Journal of Economic Literature, 36, 4774.
[45] Koszegi, B. (2013), Behavioral Contract Theory, Journal of Economic Literature, forthcoming.

Supplementary Books
[46] Ariely, D. (2008). Predictably Irrational: The Hidden Forces That Shape Our Decisions, Harper Collins.
[47] Baumeister, R. and J. Tierney (2011). Willpower: Why Self-Control is the Secret to Success, Penguin
Books.
[48] Benabou, R. and J. Tirole. Egonomics, in preparation.
[49] Camerer C., G. Loewenstein and M. Rabin (2003). Advances in Behavioral Economics, Princeton Uni-
versity Press.
[50] Cialdini, R. (1984). Influence: The Psychology of Persuasion, New York: William Morrow.
[51] Eagleman, D. (2011). Incognito: The Secret Lives of the Brain, Vintage Books.
[52] Foucault, M. (1961). Madness and Civilization: A History of Insanity in the Age of Reason, (translated
by R. Howard) Vintage, New York, 1988.
[53] Frey, B. and A. Stutzer (2002). Happiness and Economics, Princeton Press.
[54] Glimcher, P. (2004). Decisions, Uncertainty, and the Brain: The Science of Neuroeconomics, MIT Press.
[55] Kahneman, D. (2011). Thinking, Fast and Slow, Penguin Books.
[56] Mullainathan, S. and E. Shafir (2013). Scarcity: Why Having Too Little Means So Much, Times Books.
[57] Sandal, M. (2012). What Money Cant buy: The Moral Limits of Markets, New York: Farrar, Straus
and Giroux.
[58] Spiegler, R. (2011). Bounded Rationality and Industrial Organization, Oxford University Press.
[59] Trivers, R. (2011). Deceit and Self-Deception, Penguin Books.
[60] Smith, A. (1759). The Theory of Moral Sentiments.