The Endowment Effect

Here's a post from last summer*:

I went jean shopping this weekend. Actually, I went to the mall to return a t-shirt but ended buying a pair of expensive denim pants. What happened? I made the mistake of entering the fitting room. And then the endowment effect hijacked my brain. Let me explain.

The endowment effect is a well studied by-product of loss aversion, which is the fact that losing something hurts a disproportionate amount. (In other words, a loss hurts more than a gain feels good.) First diagnosed by Richard Thaler and Daniel Kahneman, the endowment effect stipulates that once people own something - they have an established or imagined "property right" to the object - that something dramatically increases in subjective value. Wikipedia has an excellent summary of an experiment documenting the endowment effect by Dan Ariely and Ziv Carmon:

Duke University has a very small basketball stadium and the number of available tickets is much smaller than the number of people who want them, so the university has developed a complicated selection process for these tickets that is now a tradition. Roughly one week before a game, fans begin pitching tents in the grass in front of the stadium. At random intervals a university official sounds an air-horn which requires that the fans check in with the basketball authority. Anyone who doesn't check in within five minutes is cut from the waiting list. At certain more important games, even those who remain on the list until the bitter end aren't guaranteed a ticket, only an entry in a raffle in which they may or may not receive a ticket. After a final four game, Carmon and Ariely called all the students on the list who had been in the raffle. Posing as ticket scalpers, they probed those who had not won a ticket for the highest amount they would pay to buy one and received an average answer of $170. When they probed the students who had won a ticket for the lowest amount they would sell, they received an average of about $2,400. This showed that students who had won the tickets placed a value on the same tickets roughly fourteen times as high as those who had not won the tickets.

What does this have to do with fitting rooms and jeans? Once I tried on the pants, I became an implicit owner of them. I stared at myself in the mirror and admired the fit, the wash, etc. I thought about how good they would look with my shoes. I contemplated wearing them to various upcoming events and all the strangers who would look at my pants and think "Those are nice pants!" In other words, I spent a few minutes imagining my life with these new jeans and, once that happened, the pants suddenly became much more valuable. I mentally endowed myself with the object and didn't want to lose something that I didn't even own. As a result, the ridiculous price tag ($170 for Levis!) no longer seemed so ridiculous. The lesson? Don't try something on that you don't want to buy. In fact, you might not even want to touch it.

*I'm on vacation.

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That seems a little extreme. The endowment effect might not be the only factor: trying something on can give you new information (e.g. the item feels more comfortable or looks better on you than expected).

Aha... That would explain why it hurts so much to see a discarded ex with a new lover.

The discrepancy between Duke students who got tickets and those who did not could also be explained by the following: Those students who didn't get tickets at face value have limited financial resources and are thus constrained in their ability to purchase tickets at increasing costs. While these people are a segment of the market, they are not the entire market.

There is an affluent Duke alumni base willing to pay much more for tickets. Recognizing this fact and understanding the true market, the students that get the face value tickets state a much higher value.

A very thought provoking perspective that links closely with what Barry Schwartz calls the Paradox of Choice. In short, when we only had a few choices of jeans to buy, the choice was not so emotionally laden. Now we have tens of brands, the choice is more difficult. If we choose a pair of jeans that fail to satisfy our needs or expectations, we only have ourselves to blame - we didn't choose another pair. Somehow, if we had done more research, been more knowledgeable on the quality, value or fashion status,we would reap the ultimate benefit - satisfaction. Thus, with so many choices, we face the opposite of satisfaction - dissatisfaction, annoyance and self deprecation for the mistakes in our choices. It's time for us to wake up to taking responsibility for our lives at a broader level - and the lessons from the Paradox of Choice can be a gift rather than a burden - if only we ask better questions.

Clare Mann

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