Controlling for the Compromise Effect Debiases Estimates of Risk Preference Parameters

The compromise e¤ect arises when options near the “middle”of a choice set are more appealing. The compromise e¤ect poses conceptual and practical problems for economic research: by in‡uencing choices, it distorts revealed preferences, biasing researchers’inferences about deep (i.e., domain general) preferences. We propose and estimate an econometric model that disentangles and identi…es both deep preferences and the context-dependent compromise e¤ect. We demonstrate our method using data from an experiment with 550 participants who made choices over lotteries from multiple price lists. Following prior work, we manipulate the compromise e¤ect by varying the middle options of each multiple price list and then estimate risk preferences without modelling the compromise e¤ect. These naïve parameter estimates are not robust: they change as the compromise e¤ect is manipulated. To eliminate this bias, we incorporate the compromise e¤ect directly into our econometric model. We show that this method generates We thank Helga Fehr-Duda, Philipp Koellinger, Kevin McCabe, Ted O’Donoghue, Matthew Rabin, and Charlie Sprenger for helpful comments. For research assistance, we are grateful to Jonathan Cohen, Brice Cooke, Jaesun Lee, and especially Brendan Price and Alexandra Roulet. Research reported in this publication was supported by the National Institute on Aging of the National Institutes of Health under Award Numbers R01AG021650 and P01AG005842. The content is the sole responsibility of the authors and does not necessarily represent the o¢ cial views of the National Institutes of Health. Beauchamp thanks the Pershing Square Fund for Research on the Foundations of Human Behavior for …nancial support. E-mail: [email protected], [email protected], [email protected], [email protected].