| Abstract: |
In this paper, we ask three questions about reference-dependent preferences
(RDP) : to what extent can they be said to be irrational ? What is the
mechanism that underlies reference dependence ? How to design welfare
improving policies when preferences are reference-dependent ? As to the first
question, we characterize three notions of rationality to assess the
rationality of RDP and show that there is a sense in which they are rational.
As to the second, we show that the effect of a shifting reference point is
two-sided : first modifying the relevant criteria for choice and second
modifying the desirability of an option. As to the third question we define a
welfare ordering based on the comparison of the strength of the status quo
bias and show how to relate it to the representation of preferences. |