Framing (economics) Totally Explained

Everything about Framing Economics totally explained

In economics, framing means the manner in which a rational choice problem has been presented. Amos Tversky and Daniel Kahneman have shown that framing can affect the outcome (ie. the choices one makes) of choice problems, to the extent that several of the classic axioms of rational choice don't hold. This is referred to as Prospect theory. Tversky and Kahneman (1981) demonstrated systematic reversals of preference when the same problem is presented in different ways, for example in the 'Asian disease' problem. Participants were asked to "imagine that the U.S. is preparing for the outbreak of an unusual Asian disease, which is expected to kill 600 people. Two alternative programs to combat the disease have been proposed. Assume the exact scientific estimate of the consequences of the programs are as follows." The first group of participants were presented with a choice between two programs:

Program A: "200 people will be saved"
Program B: "there is a one-third probability that 600 people will be saved, and a two-thirds probability that no people will be saved" 72 percent of participants preferred program A (the remainder, 28 percent, opting for program B). The second group of participants were presented with the choice between:
Program C: "400 people will die"
Program D: "there is a one-third probability that nobody will die, and a two-third probability that 600 people will die" In this decision frame, 78 percent preferred program D, with the remaining 22 percent opting for program C. However, programs A and C, and programs B and D, are effectively identical in accordance with von-Neumann's expected utility hypothesis, in which the value of the outcome of an event is multiplied by the probability of its occurrence. A change in the decision frame between the two groups of participants produced a preference reversal, with the first group preferring program A/C and the second group preferring B/D. Edward Zelinsky has shown that framing effects can explain some observed behaviors of legislators.

Framing biases affecting investing, lending, borrowing decisions make one of the themes of behavioral finance. Preference reversals and other associated phenomena are of wider relevance within behavioural economics, as they contradict the predictions of rational choice, the basis of traditional economics.

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