A Loss-Sensitivity Explanation of Integration of Prior Outcomes in Risky Decisions

An assumption made in prospect theory (Kahneman and Tversky, 1979; Tversky and Kahneman, 1991, 1992) is that prospects or options are edited before values are assigned and choices made on the basis of these values. Editing includes framing of outcomes as gains or losses relative to a reference point. Framing also entails segregating or integrating prior outcomes. Kahneman and Tversky (1979, 1984) and Tversky and Kahneman (1981) provide several examples of segregation. In one example subjects were asked to imagine that they have been given $1000 and then to indicate whether they would chose a sure loss of $500 over an equal probability of losing $1000 or nothing. A majority of subjects chose the risky loss exactly as they would do in the absence of the prior outcome (i.e., the amount they were to imagine they were given). If subjects edit the options so that the prior outcome is taken into account, according to prospect theory they would instead choose the sure gain of $500 (i.e., the $1000 they were given minus the sure loss of $500) over an risky gain of $1000 or nothing. However, other research (Arkes and Blumer, 1985; Gärling and Romanus, 1995; Gärling et al., 1994; Laughhunn and Payne, 1984; Romanus et A Loss-Sensitivity Explanation of Integration of Prior Outcomes in Risky Decisions