Experimental Economics: A Revolution in Understanding Behaviour

2 The Burgundy Reports are synthesis documents written by CIRANO researchers on issues of general interest. Their aim is to encourage discussion and public debate on current issues. CIRANO is a multidisciplinary interuniversity centre of research. Its mission is to accelerate the transfer of knowledge between researchers and organizations. The observations and viewpoints expressed in this publication are the sole responsibility of the authors; they do not necessarily represent the positions of CIRANO or its partners. Short sections may be quoted without explicit permission, provided that full credit, including © notice, is given to the source. He holds a PhD in economics from the University of Pittsburgh. Mr. Engle-Warnick's field of research is in experimental economics, and he uses the laboratory to explore issues such as pay for performance, peoples' willingness to pay to reduce future risk, and the effect of risk and ambiguity preferences on decision making. Sonia Laszlo Sonia Laszlo is a professor in the Department of Economics at McGill University. She holds a PhD from the University of Toronto. Ms. Laszlo's field of research is in development economics, where she seeks to better understand the challenges faced by the poor in improving their living standards. She uses the laboratory as well as survey data to investigate whether decision making under uncertainty can explain behaviors among the poor, such as subsistence farmers' production decisions. What is the best compensation What is the best compensation package to offer employees? How should choice among investments in pension plans be structured? Should a government use auctions to sell natural resources? Is it possible to design a market to reduce non-point source pollution in Quebec's watersheds? What holds people back from trying technologies that are completely new to them? Over the last two decades a revolution has occurred in the advancement of our ability to answer questions such as these. This revolution is called experimental economics. Experimental economics is the use of a controlled laboratory environment to understand decisions people make. In an economics experiment, people make decisions in a laboratory. They are paid according to the outcome of their decisions, and their decisions are analyzed to determine the effect of an institutional or environmental change that is being tested. Through the analysis of behaviour in controlled economics experiments, much has been learned about behaviour when outcomes are uncertain: for example, new notions about preferences toward risk and consumption over time have …