Boston University School of Law
Valuation gaps and exchange asymmetries are among the most widely studied phenomena in the field of behavioral economics. The purpose of this chapter is to present the current state of the social science literature related to observed reluctance to trade. Numerous theories have been proposed and only a few might be safe to rule out based on the evidence to date. The chapter begins by describing the standard model of preferences, which generally assumes that valuation is independent of ownership status, and then catalogs early findings that seem to suggest that ownership status influences valuation. Early research tested various potential explanations for observed reluctance to trade, and the results did not point to any one theory. Despite this, the literature gravitated toward a single theory — endowment theory, which assumes that preferences are reference-dependent and that individuals are averse to losses. With endowment theory on the rise, some went to work to investigate the conditions that might trigger loss aversion and those that might reduce its effects. Since the early 1990s, a number of alternative theories have been developed and tested by both economists and psychologists including substitution theory, expectation theory, preference uncertainty, mere-ownership theory, enhancement theory, subject misconceptions, and regret avoidance. The chapter walks through each proposed theory, cataloging the evidence for and against. While some theories have garnered more support from the data than others, no single theory yet deserves the title of leading theory. In addition, the phenomenon itself has proved too unstable to warrant general claims that valuations depend on ownership (or expectations over ownership) or that individuals are generally reluctant to trade. Given the current state of the literature, to make such claims is to misrepresent the full set of results. As this chapter makes clear, much more work is required to develop a theory or set of theories worthy of designation as the leading theory.
What Explains Observed Reluctance to Trade? A Comprehensive Literature Review,
Boston University School of Law, Law and Economics Research Paper
Available at: https://scholarship.law.bu.edu/faculty_scholarship/539