06/2010 Patricio Dalton and Sayantan Ghosal

If decision-makers (DMs) do not always do what is in their best interest, what do choices reveal about welfare? This paper shows how observed choices can reveal whether the DM is acting in her own best interest. We study a framework that relaxes rationality in a way that is common across a variety of seemingly disconnected positive behavioural models and admits the standard rational choice model as a special case. We model a behavioural DM (boundedly rational) who, in contrast to a standard DM (rational), does not fully internalize all the consequences of her own actions on herself. We provide an axiomatic characterization of choice correspondences consistent with behavioural and standard DMs, propose a choice experiment to infer the divergence between choice and welfare, state an existence result for incomplete preferences and show that the choices of behavioural DMs are, typically, sub-optimal.

Behavioural Economics and Wellbeing