#06-01
Substantive and Procedural Rationality in Decisions under Uncertainty
Syngjoo Choi, Raymond Fisman and Douglas Gale, December 2005
Abstract: We report a laboratory experiment that enables us to study systematically the substantive and procedural rationality of decision making under uncertainty. By using novel graphical representations of budget sets over bundles of state-contingent commodities, we generate a very rich data set well-suited to studying behavior at the level of the individual subject. We test the data for consistency with the maximization hypothesis, and we recover underlying preferences using bothnonparametric and parametric methods. We find considerable heterogeneity in individual behaviors across subjects. In spite of this heterogeneity, we identify ‘prototypical’ heuristics that inform subjects’ decision rules. To account for these heuristics, we propose a type-mixture model based on Expected Utility Theory employing only combinations of three heuristics which correspond to the behavior of individuals who are infinitely risk averse, risk neutral, and expected utility maximizers with intermediate risk aversion. This links the procedural rationality that is evident in the data to substantive rationality, and supports the use of Expected Utility Theory for both normative and descriptive purposes.
Keywords: Expected Utility Theory, revealed preference, heuristics, type-mixture model, experiment.
JEL classifications : D81, C91.
