Questions

1. Consider a high school student who is given $3 every
school day by her parents as “lunch money.” The
student works a part time job after school, earning a
small amount of “spending cash.” In addition to her
lunch money, the student spends $5 from her own
earnings each week on lunch. Suppose her parents
reduced her lunch money by $2 per day but that she
simultaneously receives a $10-per-week raise at her
job, requiring no extra effort on her part. What would
the rational choice model suggest should happen to her
spending on lunch? Alternatively, what does the
mental accounting framework predict?
2. Suppose you manage a team of employees who manufacture
widgets. You know that profits depend
heavily on the number of widgets produced and on the
quality of those widgets. You decide to induce better
performance in your team members by providing a
system of pay bonuses for good behavior and pay
penalties for bad behavior. How might hedonic framing
be used to make the system of rewards and penalties
more effective? How does this framing differ
from the type of segregation and integration suggested
by hedonic editing?
3. Suppose you are a government regulator who is concerned
with the disposition effect and its potential
impact on wealth creation. What types of policies could
be implemented to reduce the sale of winning stocks
and increase the sale of losing stocks? The government
currently provides a tax break for the sale of stocks at a
loss. This tax break tends to encourage the sale of losing
stocks only in December. What sorts of policies could
encourage more regular sales of losing stocks?
4. You are considering buying gifts for a pair of friends.
Both truly enjoy video gaming. However, both have
reduced their budget on these items because of the
temptation that they can cause. Dana is tempted to buy
expensive games when they are first on the market
rather than waiting to purchase the games once prices
are lower. Thus, Dana has limited himself only to
purchase games that cost less than $35. Alternatively,
Avery is tempted to play video games for long periods
of time, neglecting other important responsibilities.
Thus, Avery has limited herself to playing video games
only when at other people’s homes. Would Dana be
better off receiving a new game that costs $70 or a gift
of $70 cash? Would Avery be better off receiving a
video game or an equivalent amount of cash? Why
might these answers differ?
5. Suppose Akira has two sources of income. Anticipated
income, y1 is spent on healthy food, represented by x1,
and clothing, x2. Unanticipated income, y2 is spent on
dessert items, x3. Suppose the value function is given
by v x1, x2, x3 = x1x2x3
13
, so that marginal utility of
good 1 is given by v x1, x2, x3
x1
= 13
x −23
1 x2x3
13
, marginal
utility for good 2 is v x1, x2, x3
x2
= 13
x −23
2 x1x3
13
, and
marginal utility of good 3 is given by v x1, x2, x3
x3
=
13
x −23
3 x1x2
13
. Suppose y1 =8 and y2 =2, and that the
price of the goods is given by p1 = 1, p2 =1, p3 = 2.
What is the consumption level observed given the
budgets? To find this, set the marginal utility of consumption
to be equal for all goods in the same budget,
and impose that the cost of all goods in that budget be
equal to the budget constraint. Suppose Akira receives
an extra $4 in anticipated income, y1 =12 and y2 = 2;
how does consumption change? Suppose alternatively
that Akira receives the extra $4 as unanticipated
income, y1 =8 and y2 =6; how does consumption
change? What consumption bundle would maximize
utility? Which budget is set too low?
6. Consider the problem of gym attendance as presented
in this chapter, where Jamie perceives the value
of attending the gym to be va xn − pδt n +
vt − pδt +pr n , where xn is the monetary value to
Jamie of experiencing the n th single attendance event
at the gym, p is the price paid once every six months, δ
is the monthly rate of depreciation, t is the number of
months since the last payment was made, n is the
number of times Jamie has attended the gym since
paying, including the attendance event under consideration,
and pr n is the price Jamie considers fair for
attending the gym n times. Suppose that the cost of
gym membership is $25. Further, suppose Jamie considered
the value of attending the gym n times in a sixmonth
window to be va n = 5n− n2 − δt25 n. Also,
suppose that Jamie considers the fair price for a visit
to be $4, so the transaction utility is equal to
vt n = −25δt +4n. Payments depreciate at a rate of
δ= .5. Determine the number of visits necessary in
each of the six months in order to obtain a positive
account. How much time would have to pass before
only a single visit could close the account in the black?