Prospect Theory or Skill Signaling?

Failure is embarrassing. In gambles involving both skill and chance, we show that a strategic desire to avoid appearing unskilled generates behavioral anomalies that are typically explained by prospect theory’s concepts of loss aversion, probability weighting, and framing effects. Loss aversion arises because losing any gamble, even a friendly bet with little or no money at stake, reflects poorly on the decision maker’s skill. Probability weighting emerges because winning a gamble with a low probability of success is a strong signal of skill, while losing a gamble with a high probability of success is a strong signal of incompetence. Framing matters when there are multiple equilibria and the framing of a gamble affects beliefs, e.g., when someone takes a “dare” rather than admit a lack of skill. The analysis is based on models from the career concerns literature and is closely related to early social psychology models of risk taking. The results provide an alternative perspective on the existence of prospect theory behavior in economic, financial, and managerial decisions where both skill and chance are important. We identify specific situations where skill signaling makes opposite predictions than prospect theory, allowing for tests between the strategic and behavioral approaches to understanding risk.prospect theory, career concerns, probability weighting, loss aversion, framing effects, dare taking, embarrassment aversion

Skill Signaling, Prospect Theory, and Regret Theory

When a risky decision involves both skill and chance, success or failure is a signal of the decision maker's skill. Adopting standard models from the career concerns literature, we show that a rational desire to avoid looking unskilled may help explain several anomalies associated with prospect theory, including probability weighting, loss aversion, and framing. Prospect theory's four-fold pattern of probability weighting predicts that decision makers favor long-shots, avoid near sure-things, buy insurance against unlikely losses, and take risky chances to win back large losses. We find that this pattern emerges because winning a gamble with a low probability of success is a strong signal of skill, while losing a gamble with a high probability of success is a strong signal of incompetence. Regarding loss aversion, a fear of looking inept provides an alternative explanation for the puzzle of why people are so risk averse for small gambles. Such behavior can arise because losing any gamble, even a "friendly bet" with little or no money at stake, reflects poorly on the decision maker's skill. Finally, we find that framing affects choices because different formulations of a question provide different information about how a decision maker's actions will be interpreted. While the theoretical predictions of skill signaling closely parallel those of prospect theory, they differ in some cases, allowing for tests between the theories. The theoretical predictions are also closely related to, but distinguishable from, those of regret theory.prospect theory; regret theory; probability weighting; loss aversion; framing

Random contamination and select response styles affecting measures of fit and reliability in factor analysis

This research examines the effects of nonattending response pattern contamination and select response style patterns on measures of model fit (CFI) and internal reliability (Cronbach's α). A simulation study examines the effects resulting from percentage of contamination, number of manifest items measured and sample size. Initial results indicate that sample size very mildly affects CFI but does not influence α. Percent contamination decreases both CFI and α in a nearly linear fashion over a limited range of contamination. Finally, whereas an increase in the number of manifest items increases resilience to random contamination for α, the opposite was observed for CFI. An increase in the number of manifest items resulted in larger decreases in CFI. Implications are briefly discussed

Early Round Upsets and Championship Blowouts

In equilibrium play of a two-round tournament we find that underdogs exert more effort in the opening round while favorites save more effort for the final. Ability differences between players are therefore compressed in the opening round so upsets are more likely, and amplified in the final so blowouts are more likely. Measures that reduce the need to strategically allocate effort across games make for a more exciting final but a less exciting opening round. Consistent with the model, introduction of a one-day rest period between regional semi-final and final matches in the NCAA men’s basketball tournament was found to increase the favorite’s victory margin in the semi-finals by about five points. Non-sports applications of the model include the allocation of resources across primaries and general elections by candidates and the allocation of resources across a career ladder by managers.contest; tournament; all-pay auction

False Modesty: When Disclosing Good News Looks Bad

Is it always wise to disclose good news? We find that the worst sender with good news has the most incentive to disclose it, so reporting good news can paradoxically make the sender look bad. If the good news is attainable by sufficiently mediocre types, or if the sender is already expected to be of a relatively high type, withholding good news is an equilibrium. Since the sender has a legitimate fear of looking too anxious to reveal good news, having a third party disclose the news, or mandating that the sender disclose the news, can help the sender. The predictions are tested by examining when economics faculty at different institutions use titles such as "Dr" and "Professor" in voicemail greetings and course syllabi.disclosure, persuasion, communication, verifiable message, countersignaling, private receiver information

Opportunistic Discrimination

When can you cheat some people without damaging your reputation among others? In a trust game between a firm and a series of individuals from two groups of different sizes, the firm has more incentive to cheat minority individuals because trade with the minority is less frequent and the long-term benefits of a reputation for fairness toward the minority are correspondingly smaller. If the majority is sufficiently large it gains nothing from a solidarity strategy of punishing opportunism against the minority, so the firm can continue doing business with the majority even if it cheats the minority. When some firms have a preference-based bias against the minority, the interaction with reputation effects gives all firms a stronger incentive to cheat the minority, and discrimination is the unique equilibrium for firms of intermediate patience.discrimination, trust, social capital, opportunism, reputation spillover

Employee Stock Ownership vs. Profit Sharing

The idea that profit sharing increases employment has been widely tested, but the theoretical basis for the claim is weak and the empirical results are ambiguous. This paper shows that employee stock ownership based on individually-held stakes avoids the problems of traditional profit sharing. Employee stock ownership shifts employment to the efficient level by either raising employment from an initial state of underemployment or decreasing it from an initial state of overemployment. Since the effect on employment is not unidirectional, empirical tests need to differentiate between traditional profit sharing and employee stock ownership and to condition on the initial state of employment.profit sharing; employee ownership; ESOPs; collective bargaining

Best Foot Forward or Best for Last in a Sequential Auction?

Should an informed seller of multiple goods sell the best goods first to make a favorable impression on buyers, or instead hold back on the best goods until buyers have learned more from earlier sales? To help answer this question we consider the sequential auction of two goods by a seller with private information about their values. We find that the seller's sequencing strategy endogenously generates correlation in the values of the goods across periods, thereby giving the seller an incentive to impress buyers by leading with the better good. This impression effect implies that selling the better good first is the unique equilibrium in many situations, and that selling the better good last is never a unique equilibrium. Nevertheless, if the seller could commit to a sequencing strategy, revenues would often be higher from waiting to sell the better good last. Either sequencing strategy reveals the seller's ranking of the goods and thereby, due to the linkage principle, generates higher revenues than either randomly selling the goods or selling them simultaneously.sequential auction; impression effect; linkage principle; declining price anomaly

The effect of metacognitive strategy instruction on L2 learner beliefs and listening skills

This pilot study investigated the effect of semester-long strategy-based instruction on learner beliefs and skills in the processing of aural input by adult learners of English as a second language at metacognitive and procedural levels. The study addressed two frequently encountered learner beliefs thought to impede L2 processing of aural input: The little words aren’t important; intonation is merely decorative. Working on the premise that learner beliefs underpin learner strategies for processing aural input and are reflected in learner productive and receptive skills, pre- and post-instruction instruments measured both learners’ awareness of connected speech processes and the functions of intonation, and their ability to segment a continuous speech stream, and to process utterances for speaker intent. Findings using repeated measures analysis of variance support strategy-based metacognitive training in connected speech and stress and intonation to promote listening skills awareness, aid word segmentation, and facilitate understanding utterance content and intended meaning.Published versio