The Endowment Effect and Beliefs About the Market

Abstract

The endowment effect occurs when people assign a higher value to an item they own than to the same item when they do not own it, and this effect is often taken to reflect an ownership-induced change in the intrinsic value people assign to the object. However recent evidence shows that valuations made by buyers and sellers are influenced by market prices provided for the individual products, suggesting a role for beliefs about the markets. Here we elicit individuals' beliefs about whole distributions of market prices, enabling us to quantify whether or not a given transaction constitutes a "good deal" and to demonstrate how an endowment effect may reflect such considerations. In a meta-analysis and three laboratory experiments, we show for the first time that ownership has no effect on beliefs about either: (a) the quality of the item or (b) the appropriate market price for the item. Instead, we show that sellers demand a price for the item that matches their beliefs about the item's relative quality and the distribution of market prices in the market. Buyers, in contrast, offer less than what they believe the appropriate market price is. Thus, we argue that the endowment effect may largely reflect "adaptively rational" behavior on the part of both buyers and sellers (given their beliefs about relevant markets) rather than any ownership-induced bias or change in intrinsic preferences.

Keywords: endowment effect; good deal; market price; ownership; valuation.

Figure 1

Example question of the elicitation process that was shown to participants.

Figure 2

Mean percentile estimates of the market price in Experiment 1. Error bars in the right panel represent ± 2 standard errors of the mean.

Figure 3

Histograms of WTA(P) ranks within individually fitted market price distributions in Experiment 1.

Figure 4

Quality rank question as shown to participants.

Figure 5

Mean percentile estimates of the market price in Experiment 2. Error bars in the right panel represent ± 2 standard errors of the mean.

Figure 6

Histograms of WTA(P) ranks within individually fitted market price distributions in Experiment 2.

Figure 7

Valuations of buyers and sellers together with elicited market prices and estimated appropriate prices for the water bottle. Error bars represent bootstrapped 95% confidence intervals.

Figure 8

Procedure for estimating distribution of store prices for a single product. Top: first stage, where participants indicated the minimal and maximal store prices. Bottom: second stage, where participants filled in the distribution of equally spaced price intervals.