18 Health Insurance and Health Care

• Spock didn't face many of the difficulties that come with making decisions.

• We love to laugh and cry.
• At times, we seek revenge and at other times, we seek forgiveness.
• We can be short-sighted and impulsive, and fail to see the benefits of pursuing long- run gains.

• Although they do not fit within our economic models, each of these behaviors is real.
• The standard economic model of behavior does not take into account the complexity of human decision- making.
• We consider why people don't make rational decisions in this chapter.

• Spock and the Vulcans use logic to make decisions.
• James Kirk is subject to many biases.

• One key difference is that psychologists don't assume that people always behave rationally.
• Experimental psychology can be used to describe human behavior.

• Economic theorists don't want to explain why people might make an impulse purchase because they assume that people make optimal decisions.
• Economists understand that many behaviors are not able to solve the problem of rationality.

• Bounded rationality can be explained in three different ways.
• The information that the individual uses to make a decision may be limited or incomplete.
• The human brain is limited in its ability to process information.
• There is a limited amount of time to make a decision.
• The decision maker can't reach the results predicted under perfect rationality.

• Suppose you're about to get married and you find yourself at Kleinfeld Bridal with your bridesmaids.
• You enter the store to look for a wedding dress.
• You find a dress that you like, but its price is higher than you were planning to spend.
• If you think the value is high enough to justify the price, you should buy.
• You have a limited amount of information.
• In a rational world, you would check out alternatives in other stores and on the internet and then make the decision to purchase the dress only after you are satisfied that it is the best possible choice.

• A dress you tried on at one location can be a dress you tried on elsewhere.
• Under a deadline, wedding dresses are selected.
• The bride must make a decision quickly.
• There are three reasons that prevent a bride from achieving the result that economists predict.
• You walk into a store, see something you love, and make a purchase using partial information.
• The decisions reflect rationality when people end up making them.

• We will look at vari ous behaviors that don't fit assumptions about rational behavior.
• There are misperceptions of probabilities, inconsistencies in decision making, and judgments about fairness when making decisions.
• The goal in this section is to help you understand the differences between what economic models predict and what people actually do.

• Economic models don't account for how people perceive the probability of events.
• High- probability events are often under anticipated.
• We consider several familiar examples, including games of chance, difficulties in assessing probabilities, and seeing patterns where none exist.

• Playing games of chance is a losing proposition.
• Millions of people spend money on games of chance despite the odds being against them.

• For some people, the chance of winning a lottery gives them hope that they will be able to purchase something they need but can't afford.
• People have incomplete information about the probabilities and prize structures.
• The exact odds of winning are not calculated by most lottery players.
• People are excited about playing if the game has a positive expected value, which is why lottery agencies highlight winners.
• Imagine if every headline trumpeted the newest lottery millionaire was followed by the names of the people who lost.

• The irrational belief of players is that they have control over the outcome.
• They are certain that playing certain numbers will bring success.
• Many players feel that they must stick with their favorite numbers to avoid regret, and everyone has heard of players who changed their lucky pattern only to watch it win.

• Some gaming behaviors are rational.

• The casinos can be beaten by betting strategically and paying close attention to the cards.
• Some people can win at blackjack by counting the cards that have been dealt.
• There is an incentive to gamble if the expected value is positive.
• If a friend wants to wager $10 on the flip of a coin and promises you $25.00 if you guess right, the expected value is half of that.

• When you have little to lose or no other options, it makes sense to gamble.
• The thrill of gambling is enjoyable for some people.
• Most gambling behaviors don't have rational motives.
• Gambling leads players to make poor financial decisions.

• People who gamble do not evaluate probabilities in a rational way.
• Gambling is not the only irrational decision- making that happens with many other behaviors.
• Traveling by airplane is 10 times safer than traveling by automobile.
• Millions of people who refuse to fly do not hesitate to get into a car.
• A false sense of control is created by driving.

• At the end of the show, the host would ask a contestant to pick a curtain.

• A car, a nice but less expensive item, or a worthless joke item could be behind each curtain.
• If contestants had used probability theory, they could have maximized their chances of winning the car.
• The contestants rarely chose in a rational way.

• You pick curtain number 3.
• The host, who knows what is behind the curtains, opens curtain number 1 which has a pen filled with chick ens.
• You can switch your choice to curtain number 2.

• The majority of contestants would stay with their original choice because they think they have a better chance of winning the car now.
• The chance that you guessed correctly the first time is the same as it is now.
• There is still a chance that one of the curtains contains the car.
• With curtain number 1 revealed as the joke prize, that 1/3 probability now belongs to curtain number 2.

• Most contestants don't switch for fear of regretting their decision, because they think that each of the two remaining curtains has an equal chance of holding the car.

• Poor decisions are made because of the difficulty in recognizing the true underlying probabilities and the irrational fear of regret.
• Understanding these tendencies helps economists to make better decisions.

• Studies show that bets on recent are not likely to be repeated winning numbers.
• The selection of winning numbers and outcomes that have randomly, just like flipping coins, are due to happen soon.

• Someone who uses the gambler's fallacy believes that if many heads have occurred in a row, thentails will occur next.

• The study looked at the belief that random sequence can affect the game of basketball.
• A player who has scored several baskets in a row, one with a "hot hand", is thought to exhibit a positive correlation.

• There was no correlation between success in one shot and success in the next shot.

• Some people fall into traps when investing in the stock market.
• The gambler's fallacy and the hot hand fallacy wouldn't exist in a rational world.
• People are more likely to see patterns in data when there are no.
• The rise and fall of the stock market is often believed to be driven by specific events and by underlying metrics such as profitability, market share, and return on investment.
• When a downward trend seems to be occurring, investors often react with a herd mentality by rushing into stocks that appear to be doing well and selling them off.
• The gambler's fallacy is reflected when investors believe the stock market has run up or down too rapidly.

• Some segments of the market are driven by investor psychology.
• There is a correlation between the weather and how the stock market trades on a particular day.
• The stock market can't give participants a rational performance because the weather in Lower Manhattan could have something to do with it.

• Your instructor makes sure the exam answers are distributed randomly.

• When you consider the next question, do you ever wonder what it means?
• You don't know the answer comes up and you have to guess.

• The gambler's fallacy says that recent events are less likely to happen again in the near future.
• The gambler's fallacy is at work in your decision to avoid marking another C.

• People would always be consistent if they were completely rational.
• Research has shown that the way a question is asked affects our responses.
• Many of us make bad decisions.
• In this section, we look at a variety of decision- making mistakes.

• There are a number of ways in which economic models don't account for the behavior of real people.

• Consider an employer sponsored retirement plan.

• Studies show that workers are asked if tives are presented.

• The psychological thriller from 1998 tries to make sense of chaos.
• Max Cohen is using his computer to find patterns in the stock market.

• Nature uses mathematics as a language.

• Max's quest reminds us that the average inves identify a mathematical pattern that will predict the tor lacks full information, but still irra behavior of the stock market.
• He is pursued by two parties as he gets closer to believing that he or she knows something.
• A Wall Street firm that wishes to use Max's discovery tions about the true probability of events can lead to manipulate the market and a religious person who believes that the pattern is a code sent from God.

• Con when the order sider two groups of college students.
• The first group is asked how happy they are.

• The questions are presented in reverse order.
• Those who had more dates believed they were happier because they were reminded of the number of dates first.

• When an objective evaluation of their current stances suggests that a change would be beneficial, decision makers try to protect what they have.

• People are affected by the status quo bias.
• The cost of this behavior is missed opportunities.
• An individual with status quo bias would maintain a savings account with a low interest rate, instead of shopping for better rates elsewhere.
• The benefits of higher returns on savings would be lost by this person.

• Many potential customers prefer to leave things the way they are, even if something new might make them feel better, because status quo bias explains why new products and ideas have trouble gaining traction.
• Consider the $1 coin.

• If people used the $1 coin, the government would save $5 billion in production costs over the next 30 years.
• It is not a slam dunk policy change.
• Americans like their dollar bills and rarely use the $1 coins in circulation, even though they frequently use nickels, dimes, and quarters to make change, feed parking meters, and to buy from vending machines.
• The status quo bias has prevented the change from happening, even though introducing more of the $1 coin and eliminating the $1 bill would be rational.

• More than 25,000 organ transplants take place in the United States each year, with the majority coming from deceased donors.
• Demand is much higher than supply.
• Over 100,000 people are waiting for an organ donation.
• Most Americans are aware of the need and support donation.
• Only 30% of people know how to become a donor.

• The opt- in system and the opt- out system are the main donor systems.
• Individuals are required to give explicit consent to be donors.
• Anyone who has not explicitly refused is considered a donor.

• The United States requires donors to opt in.
• Many states have sought to raise donation awareness by allowing consent to be noted on individual driver's licenses.

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• Many people who would be willing to donate organs never actually take the time to complete the necessary steps to opt in.
• In countries like France and Poland, people must opt out if they want to donate their organs.

• The strategy yields higher organ donation rates than opt-in programs.

• The results should be the same according to traditional economic analysis.
• The framing effect is illustrated by the fact that we find strong evidence to the contrary.

• opt-out programs automatically enroll eligible people unless they explicitly choose not to, which is one of the most successful applications of behavioral economics.

• The same incentives and freedom of choice can be found in opt-out programs, where members are not required to participate.

• Here are three remarkable results.

• Temporal decisions are made across time.
• Planning to do something over a period of time requires the ability to value the present and the future consistently.
• Many people don't end up saving enough for retirement because they don't value time enough.

• The temptation to spend money is overwhelming.

• A person wouldn't need help saving enough for retirement in a rational world.
• In the real world, workers depend on 401(k) plans and other work- sponsored retirement programs to deduct funds from their paychecks so that they don't spend that portion of their income on other things.

Can you not eat one run objectives?

• One at a time, individual children were led into a room and offered a treat.
• The researchers told the children that they could either eat the marshmallows immediately or wait 15 minutes and get a second one.
• The children in the study ate the marshmallows slowly.
• Most of the time, they tried to fight the temptation.

• One third of those who tried to wait were able to get the second marshmallows.
• That finding is interesting, but what happened next is truly amazing.
• Many of the parents of the children in the original study noticed that the children who had delayed gratification seemed to perform better as they progressed through school.
• Researchers tracked the participants over the course of 40 years and found that the group with delayed gratification had higher SAT scores, more savings, and larger retirement accounts.

• Standard economic theory cannot explain the pursuit of fairness, a common behavior that is important in economic decisions.

• One of the key drivers of tax rate structure for income taxes is fairness.
• Proponents of fairness believe that the rich pay a higher tax rate on their income than the poor do.
• Some people object to the high pay of chief executive officers or the high profits of some corporations because they believe there should be an upper limit to what constitutes fair compensation.

• Two players decide how to divide a game, which shows how fair the decision- making process is.

• Player 2 Player 2 almost always accepts the rejection.

• Both players have the choice to reject.

• Player 2 can either accept or reject the proposal.
• The sum is split according to the proposal if player 2 accepts.
• Neither player gets anything if player 2 rejects the proposal.
• The first player doesn't have to worry about reciprocity because the game is only played once.

• The ultimatum game asks player 1 to share $1,000 with player 2.
• Player 1 must make a decision.

• Economic theory presumes that both players want to maximize their income.
• Player 1 should give the minimum of $1 to player 2 in order to maximize his gains.
• The reasoning is that player 2 values $1 more than nothing and so will accept the proposal, leaving player 1 with $999.
• Real people believe that fairness matters, so they are not always economic maximizers.
• Player 2 would find an unfair division frustrating and reject it most of the time.

• Player 1 knows that player 2 will accept an offer of $500; this division of the money is equal and therefore fair.
• There is a 100% chance of a 50/50 agreement.
• The chance of player 2 accepting an offer of $1 is very low.
• Increasing amounts from $1 to $500 will raise the probability of an acceptance until it reaches $500.

• Player 2's only decision is whether to accept or reject the proposal.
• Player 2 has no control over the division.
• Player 2 must reject the proposal in order to punish player 1 for being unfair.
• The trade off is a complete loss of any prize.
• Rejecting a proposal would cause a personal loss for player 2.
• Player 2 would rather get something than nothing, so she might accept a number of unfair proposals.

• Mis perceptions of probability, inconsistency in decision- making, and judgments about fairness are some of the ideas that we have presented in this section.
• Risk- taking is the focus of the next section.
• Not everyone evaluates risk the same way.
• Economists are rethinking their models of human behavior because of this fact.

• When two traders expect the same amount of money in a trade, they will reach an agreement, according to traditional economic theory.
• Frans de Waal uses capuchin monkeys to argue that fairness is important in the animal kingdom.
• A capuchin monkey throws a cucumber.

• Risk plays a role in decision making.
• The economic model of consumer choice assumes that people are willing to take risks.
• People's risk tolerances are subject to change.
• Economists used to think that risk- taking behavior was simple and predictable.

• It's not easy to predict human behavior.

• Allais developed a means of assessing risk behavior by presenting the set of choices depicted in Table 17.1, known as the Allais paradox.
• People were asked to choose between gambles A and B and then between gambles C and D.

• People will choose according to their risk preference.
• If the participants are risk-neutral and want to maximize the expected value of the gambles, the pair B and C makes sense.

• People take the sure thing when they gamble.
• If they are asked to choose between C and D, we would expect them to choose D because it has a higher chance of winning.

• Gamble B has a higher expected value than gamble A.
• It pays $1 million if it occurs 100% of the time.
• It's more difficult to calculate gamble B's expected value.
• The expected value is calculated using each outcome's probability.
• This means that the expected value is $5 million and the actual value is $1.39 million.
• A neutral player will gamble B.
• Gamble C has a higher expected value than gamble D. The expected value of Gamble D is $1 million.
• A risk- neutral player who thinks at the margin will choose gambles B and C in order to maximize potential winnings from the game.

• According to Allais, 30% of his research population chose gambles A and C, which are contrasting pairs.

• Swift remembers her parents arguing when she was young.
• She dreams of what life would be like with him.
• They are running in the waves at the beach, then unpacking boxes as they move in together.
• They reconcile after her boyfriend follows her.
• They have two sons.
• Swift reappeared from her dream and ordered food at the coffee shop in the end of the video.

• Think of Taylor's dream as an example of a preference reversal.

• She stays in the relationship if this is her preference.
• The entire song is about finding someone who makes you risk-averse but falls for this guy so hard that you are willing to take her, and she lets her guard down and acts differently.

• Allais said that a person's risk tolerance depends on his or her finances.
• A person who chooses gamble A over gamble B prefers the certainty of a large financial prize over the uncertainty of the larger prize.

• You forfeited the chance to win $5 million.
• The choice is more like playing the lottery, since gambles C and D offer small chances of success.

• People who play games of chance are more likely to get refunds quicker than people who don't.

• Allais shows that people care about how much they win and how much they lose.

• Preference reversals are more common than thought.
• Almost 80% of income tax filers expect to get a refund because they overpaid in the previous year.
• There is an opportunity cost of waiting to get money back from the government when it doesn't need to be paid in the first place.
• Employees could have asked for less money from their employers.
• People who wait to receive their money later have a weakly positive time preference.
• People prefer to have what they want sooner rather than later.

• This behavior is now seen as a preference reversal by Allais.

• It was easier to analyze the contestants' strategy choices if skill was taken out of the equation.
• Less skilled players may have different risk tolerances.

• Each model had a briefcase with a sum of money ranging from 1 cent to $1 million.
• The contestant would pick one briefcase and decide when to open the other 25 briefcases.

• As cases were eliminated, a "banker" would call the host to offer a "deal" in exchange for the contestant quitting the game.

• The value is approximately $131,000.
• The "banker" offered a settlement based on the expected value of the briefcase as the game progressed.

• The traditional model of risk behavior predicts that some contestants maximized the expected value of the briefcase while remaining risk-neutral.
• You can choose between heads or tails.
• You earn $2,000 if your guess is correct.
• You don't earn anything if you are wrong.
• $750 can be taken without the gamble.

• The value of a 50/50 outcome is $1,000.

• The decision to take the sure thing is evidence of risk aversion.

• There is a choice between taking a sure $750 or a $3,000 prize for predicting the roll of a six-sided die.

• You will roll the die.

• The roll of the die is expected to be worth between $500 and $3,000.

• The $750 sure thing has an expected value of $250 more.
• By rolling the die, you are taking the option with a lower expected value, and how do you handle more risk.
• You are a risk taker.

• The move encouraged contestants to play longer so that the excitement and tension could build.

• The traditional model expected some contestants to do things differently.
• If contestants suffered setbacks early in the game, they took more risks, such as opening the $1 million briefcase.
• Losses are implied differently by the theory.

• The concept explains why some investors try to make up for losses by taking more chances rather than by maximizing the utility they receive from money.

• If the screenings are expected to generate a positive buzz, movie studios will usually make a film available for review.
• Movie reviews give a measure of a film's quality.

• The economists studied 856 widely released movies and found that cold openings increased domestic box office revenue by 15%.
• Movie openings are accompanied by a marketing campaign.
• Cold openings give a natural field setting to test how rational people are.
• The results are in line with the hypothesis that some people don't think low quality is indicative of a cold opening.

• The cold- opened movies earned more than the prescreened ones after a number of characteristics were controlled.
• The researchers found that cold- opened films did not fare better than expected once they reached foreign film or video rental markets.
• The line for tickets is long.

• The hypothesis is that some people don't realize that no advance review is a sign of poor quality.
• The Internet Movie Database ratings for movies that were cold- opened are lower than for movies that were open.

• There is a certain amount of naivete among teenagers.
• In recent years, distributors have overcome their initial reluctance and opened more movies.

• There is evidence that the best movie distribution doesn't depend on generating positive movie reviews.
• Cold openings work because some people can't process incomplete information, even though traditional economic analysis would lead us to expect that.

• The misconception that people always make rational decisions is dispelled by behavioral economics.
• Behavioral economics challenges the traditional economic model and invites a deeper understanding of human behavior.
• We can answer questions that span a wide range of behaviors with the help of behavioral economics.
• The examples in this chapter include the opt- in or opt- out debate, the economics of risk- taking, the effects of question design, and the status quo bias.
• These ideas don't fit in with traditional economic analysis.
• You have learned enough to question the assumptions made in the book.
• In the next chapter, we apply all of the tools we have acquired to examine one of the most important sectors of the economy-- health care and health insurance.

• You are concerned about your family's security because of a recent crime wave in your community.
• There is a solution that provides deterrence at an extremely low cost.

• The level of security depends on how rational you expect the person to be.
• A fully rational burglar would stake out a place, test for an alarm system, and choose a home that is easy to break into.
• The person would gather all the information.

• Criminals know that they can be seen and only a limited amount of time to choose a target, if you trim away shrubs and install floodlights.
• A vehicle approaches your home.

• This constraint can be a key to words if the would- be thief has incomplete information.

• Behavioral economics explains how people make choices that display irrational behavior.
• The concepts includeBounded rationality, misperceptions of probabilities, framing effects and priming effects, status quo bias, intertemporal decision- making, judgments about fairness, preference reversals, and prospect theory.

• The behavioral approach is folded into the standard model.

• People can be risk-averse or risk neutral.

• Risk tolerances are assumed to be constant in the traditional economic model.
• If an individual is a risk taker, he or she will take risks.
• If an individual doesn't like taking chances, he or she will avoid risk.

• Maurice Allais proved that many people have preference reversals.
• He showed that even if some people's preferences are not constant, their decisions are not irrational.

• You can give an example of each.

• There is a choice between two jobs.
• The job pays $50,000 annually.
• You will receive an annual bonus of $25,000 if you don't know what it is.

• You don't know the answer.

• The university might want to maximize because the house's advantage is small.

• Many voters go to the polls.
• To cast their ballot for president is suggested by the office of the registrar.
• The online teaching evaluations should be linked to the vote course scheduling.
• Voting is important when students access the "counts".
• The skeptical economist points out that with over to the teaching evaluations is a course scheduling system.
• If 100 million ballots are cast, the probability that each student can opt out and go directly to any individual's vote is close the course scheduling system.
• Do you think so?

• There is a choice of an extra $1,000 or a gamble.
• A person will place an order for a burger if he has the same expected value.
• But given a choice of a loss of cally orders.
• The same person prefers the gamble.

• Many people give to charity.

• A behavioral economist would predict an expected value of $50,000 for the first job that pays $50,000 annually.
• The second system that will raise the teaching job has a base pay of $40,000 with a 30% response rate.
• The annual bonus theory predicts that the response rate will be $25,000.
• The expected value won't change if students opt in or out of the second job, according to the calculation.

• If you are a risk-taker or risk-averse, you should not be told if you are.

• Because students who access the course choose which of the two outcomes they prefer, they are forced to opt out if they survive, even though this statement is do not wish to evaluate the instructors.