For successful business practice, one must understand that customers’ behavior is not always motivated by rational decisions. Specific errors in thinking, such as the default bias, the status quo bias, the endowment effect, the winner’s curse, and the concept of loss aversion result in irrational behavior. This paper is concerned with interpreting the experiment’s subjects’ decisions as to their rationality, determining the best strategy, and relating the results to the firm’s business strategies.
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Students will be divided into two groups. The procedure of the experiments is: Find an empty box and place it two meters away from students’ standing point. And students are asked to try to throw a pen into the empty box.
The author used their dominant hand in both cases as the best strategy in their rational understanding; additionally, like the 60% of the first group, she was unwilling to change the status quo. The majority of the second group, like the minority of the first, meanwhile, demonstrated the gambler’s fallacy, an error in mental accounting. The author, like the majority of the first group and the 30% of the second, aimed to avoid losing a sure gain rather than acquire a greater one, which is an example of the endowment effect and the loss aversion principle. Additionally, a default bias – not changing behavior when circumstances change – influenced the irrational decisions of those using the same hand in both cases.
In our last class, we have conducted an auction. In the cup with 5 cent coins, students needed to auction for obtaining this good. The actual value of the good is 4 euros (80 coins). In this experiment, a student who is willing to pay 5.5 euros won the auction. Please relate this result with the winner’s curse and briefly explain why the winner’s curse occurs in this case.
In this auction, the bidder with the highest estimate won, as per the definition of the winner’s curse. Failing to account for irrational behavior, and, thus, overvaluing the product, the student engaged in overbidding. Therefore, the price he paid was higher than the actual value of the coins.
The firm’s business strategies that fail to account for the given biases may lead to avoiding innovations. Therefore, their products may fail to meet new market demands, resulting in financial losses as customers’ decisions are not always rational. The winner’s curse, meanwhile, leads to bidders paying more than its actual value for an auctioned item.