- Social Sciences
- African Studies
- American Studies
- Asian Studies
- Communication Sciences
- Ethnic Studies
- European Studies
- Gender Studies
- Physical Sciences
- Life Sciences
- Animal Communications
- Cell Biology
- Evolutionary Biology
- Food Science and Technology
- Human Anatomy
Resolving Differences in Willingness to Pay and Willingness to Accept
by Jason F. Shogren, Seung Y. Shin, Dermot J. Hayes, James B. Kliebenstein
Resolving Differences in Willingness to Pay and Willingness to Accept
Jason F. Shogren, Seung Y. Shin, Dermot J. Hayes, James B. Kliebenstein
James B. Kliebenstein
Updated: July 23rd, 2012
Resolving Differences in Willingness to Pay
and Willingness To Accept
This paper tests the conjecture that the divergence of willingness to pay (WTP) and willingness to accept (WTA) for identical goods is driven by the degree of substitution between goods. In contrast to well-known results for market goods with close substitutes (i.e., candy bars and coffee mugs), our results indicate a convergence of WTP and WTA measures of value. However, for a nonmarket good with imperfect substitutes (i.e., reduced health risk), the divergence of WTP and WTA value measures is persistent, even with repeated market participation and full information on the nature of the good. (JEL D10, C91)
Over the past decade, a consistent and frustrating pattern of empirical evidence has accumulated suggesting a significant diver- gence of willingness-to-pay (WTP) measures of value, where individuals buy an object, and willingness-to-accept (WTA) measures of value, where individuals sell the same object. Field-contingent valuation studies first uncovered the pattern, and laboratory markets have confirmed that the divergence is persistent (see e.g., Judd Hammack and Gardner M. Brown, Jr., 1974; Robert D. Rowe et al., 1980; Jack L. Knetsch and John
A. Sinden, 1984; David S. Brookshire and Don L. Coursey, 1987). The divergence is troubling in that the interpretation of stan- dard theory predicts that with small income effects WTP and WTA should be equiva-
*Shogren: Department of Economics, Iowa State University, Arnes, IA 50011, and School of Forestry and Environmental Studies, Yale University, New Haven, CT 06511; Shin, Hayes, and Kliebenstein: De- partment of Economics, Iowa State University, Ames, IA 50011. Tom Crocker, John Braden, and Helen Jensen provided helpful comments on experimental design. Young Park and Todd Holt supplied valuable research assistance. We gratefully acknowledge the financial support of the Food Safety Consortium. Two anonymous reviewers added comments that have im- proved the paper. All errors remain our own. This is Journal Paper No. 5-14801 of the Iowa Agriculture and Home Economics Experiment Station, Ames, IA (Pro- ject No. 2994).
lent, or at least within a tight bound (see Robert Willig, 1976; Alan Randall and John
R. Stoll, 1980). Moreover, since valuation measures are used for the study of many public-policy questions, these results raise questions about which procedure to use in practice. The evidence that WTA measures significantly exceed WTP measures suggests a need to reexamine the analytical founda- tions of value measures.
In response, Michael W. Hanemann (1991) has offered a straightforward expla- nation of why the value divergence occurs and by how much. By recognizing that sub- stitution effects have a more important role than previously realized, Hanemann dem- onstrated that the divergence can range from zero to infinity, depending on the de- gree of substitution between goods and given a positive income elasticity. Hanemann showed that one should only expect conver- gence of WTP and WTA value measures when the good in question has a very close substitute. When the good has an imperfect substitute, a value divergence will exist and will expand as the degree of substitution decreases.
This paper tests Hanemann's proposition in a nonhypothetical experimental auction market. Our results provide some support for his argument. We find that for two pri- vate market goods with a relatively close substitute (a candy bar and a coffee mug) the divergence of WTP and WTA value measures disappears with repeated exposure to the market. In contrast, for a private nonmarket good with no close substitute (reduction of human health risk) the diver- gence is robust and persistent, even given repeated market participation and full in- formation on the characteristics of the good.
This paper proceeds as follows. Section I describes our general experimental design in terms of Hanemann's model. Sections I1 and I11 outline the experimental procedures and results. Section IV describes a second experiment that explores the relationship between the substitution effect and the en- dowment effect. Our conclusions are offered in Section V.
I. Substitution Effects and the General
Hanemann (1991) reconsidered the work of Randall and Stoll (1980) on value mea- sures given changed quantities of the good. He argued that the widely interpreted view of Randall and Stoll's result, which implies approximate equality between WTP and WTA is "misconceived." By recognizing that the difference in value measures depends on both income and substitution effects, Hanemann demonstrated that the fewer available substitutes the greater is the diver- gence between WTP and WTA. Intuitively, this conclusion makes a great deal of sense. One's willingness to accept compensation for a decrease in the level of a unique good, either private or public, need not equal one's willingness to pay for a good where one is constrained by income.
To illustrate, assume that an individual derives utility, u = u(x, q), from consuming a numeraire good (x) and the good under consideration (q; e.g., candy bar, coffee mug, or health). In general, WTA will exceed WTP unless there is no income effect, in which case WTA equals WTP (see e.g.,
P. R. G. Layard and A. A. Walters, 1978 pp. 150-53). The standard argument is that income effects are small for the changes measured in most valuation studies so this cannot account for the observed WTPWTA divergence. Randall and Stoll (1980) take this a step further, arguing that when goods are sold in competitive markets with zero transactions costs (i.e., candy bars and coffee mugs), the goods possess the charac- teristics of money, so there will be perfect substitutability. Perfect substitution implies a linear indifference curve for x and q (i.e., a frictionless intermediate monetary exchange of commodity holdings).
Consider Figure 1. The top panel shows the Randall and Stoll(1980) scenario where intermediate monetary adjustments create perfect substitution between the two goods. Here the WTA measure is the quantity of the numeraire good required to compensate the individual for forgoing a change in q from q, to q,. This is the amount AD which puts the individual on the higher indiffer- ence curve, but which maintains the original q, consumption level. The WTP measure is the quantity of the numeraire good that one can take from an individual after the change to q,, while still leaving him or her as well off as before. This amount is BC. Given perfect substitution, BC equals AD. This is Hanemann's (1991 p. 637) proposition 1. Note that Randall and St011 (1980) also point out that, not only should WTP equal WTA, both should equal the average market sell- ing price of the good.
Now consider the case of goods such as health, where markets are incomplete or goods are lumpy or indivisible. Hanemann's insight was that certain goods like health cannot be perfectly exchanged for money. There is friction in the market, thereby vio- lating Randall and Stoll's case of intermedi- ate monetary adjustments in commodity holdings. This leads to indifference curves of the standard shape, strictly convex to the origin.' Hanemann demonstrated that in the quantity-change case WTA will exceed WTP; the divergence depends on the in- come elasticity divided by the Allen-Uzawa elasticity of substitution. Therefore an increase in income elasticity or a decrease in
a and all and Stoll (1980) do recognize this possibil- ity (note their brief discussion on p. 452).
A. Intermediate Monetary Adjustments
B. No Intermediate Monetary Adjustments
FIGURE1. THE SIMPLE ANALYTICSOF THE WTA-WTP DIVERGENCE
the degree of substitutability will increase him at his original utility level, u,, is B'C'. the WTP-WTA divergence. In contrast, the compensation (WTA) re-
Figure 1B illustrates. The assumption of quired to reach the new level of utility, u,, health and wealth as imperfect substitutes is while remaining at the original health level, reflected by the curvature of the indiffer- q,, is AD'. Note that AD' exceeds B'C', or ence curves. The individual's WTP to se-WTA >WTP. As the degree of substicure the new level of health, q,, keeping tutability decreases, the trade-off between health and wealth becomes less desirable, implying a greater divergence between WTP and WTA.
We constructed the following general ex- perimental design to determine whether the degree of substitution significantly affects the divergence of value measures. For the case of perfect substitution, we used a regular-size brand-name candy bar. Because the candy bar is readily available in many marketing outlets including stores and vend- ing machines and because there are mini- mal transactions costs, the substitution pos- sibilities are essentially limitless. Therefore, if the degree of substitution is indeed criti- cal, the value measures should converge with repeated market participation. In addition, both value measures should be close to the average market price.
For the case of low substitution, we auc- tioned a nonmarket good represented by reduced risk from food-borne illness. We hypothesize that individuals should have a relatively low, or zero, degree of substitu- tion between health and all other commodi- ties as represented by wealth. If Hanemann's conjecture is correct, we expect the WTA measures of value to be significantly greater than the WTP measures. The following proposition summarizes our test.
PROPOSITION 1 (Convergence Proposi- tion): Given positive income elasticity and repeated market participation, the WTP and WTA measures of value will converge for the market good with close substitutes (candy bar) but will not converge for the nonmarket good with imperfect substitutes (reduced health risk from food-borne pathogens). In addition, the value measures for the market good should be related to the average selling price in the market.
If we can reject the convergence proposi- tion, then we cannot support Hanemann's argument. In this case, other explanations such as the endowment effect or loss-aver- sion become more attractive (see e.g., Daniel Kahneman et al., 1990). If we cannot reject the proposition, however, then we can offer support to the conjecture that the degree of substitution is a key to understanding the disparity between WTP and WTA measures of value.
11. Experimental Procedures
The experiment was divided into two stages. Stage 1 was the market-good auction. Stage 2 was the nonmarket-good auc- tion. Subjects participated in both stages either for the WTP or WTA experiment. See the Appendix for instructions for the WTP experiment. The WTA experiment was identical to the WTP experiment in all as- pects except for the value measure and ini- tial ownership of the good.
In stage 1, each subject was provided an initial income of $3 and a small piece of candy. To facilitate learning and value for- mation, the auction was repeated over five trials. The number of trials was selected after pretesting to determining how quickly individual value measures stabilized. Note that to control wealth effects, we made the subjects fully aware that only one of the five trials was binding. The binding trial was selected at random by a Monte Carlo num- ber generator on a personal computer. In an attempt to elicit preference accurately we used a Vickrey second-price sealed-bid auction (see William Vickrey, 1961). The Vickrey auction has successfully elicited val- ues in various experimental settings (see Vikki Coppinger et al., 1980; Don L. Coursey, 1987; Shogren, 1990).
The market good was a regular-size brand-name candy bar. Each subject was asked the maximum he or she would be willing to pay to upgrade the small piece of candy to the brand-name candy bar. For each trial, each subject recorded a bid on a recording card that was collected by the monitor. The highest bidder's identification number and the reigning price (the second- highest bid) were posted as public informa- tion on a blackboard. Each subject was given a $3 endowment in the candy-bar stage.
Stage 2 was the nonmarket-good auction. The procedures were similar to those in stage 1, with some noted exceptions. Each participant was given an initial income of $15. Two types of food items were then shown to the subjects with a description of each item. The first type was the test prod- uct, which represented food purchased from a local source with a typical chance of being contaminated with a food-borne pathogen from one-time consumption. Five food-borne pathogens were considered in five separate experimental sessions: Campylobacter, Salmonella, Staphylococcus aureus, Trichinella spiralis, and Clostridium perfrin- gens.' All five pathogens occur in the United States. The test product was provided to every participant as a free lunch. The sec- ond food type was stringently screened food. The stringently screened food had been tested for food-borne pathogens and had a low probability (one in 100 million) of caus- ing food-borne illness.
Each participant was then asked the max- imum he or she would be willing to pay to upgrade the test product to the screened food product. The bidding procedure was the same as that used in stage 1except that there were 20 trials in stage 2. "Naive" bids were elicited in the first ten trials. The bids were naive in that the subjects were not given any information on the actual proba- bilities of contracting a food-borne illness from consuming the typical food product. After the tenth trial, the monitor supplied three items of information: (a) the objective probability of becoming ill from eating a year's supply of the typical food product; (b) a description of the severity of the illness; and (c) the symptoms and average medical costs of a mild case of infection. For Salmonella, the following information was provided (see John V. Bennett et al., 1987; Roberts, 1989):
Description of Salmonellosis: Symptoms are those of a mild flu-like in- testinal disease of short duration with abdominal pains, nausea, vomiting, and diarrhea. The actual individual chance of infection of salmonellosis is 1in 125 annually. Of those individuals
'we report results for all five pathogens because measures of consumers' WTA and WTP to reduce or eliminate these pathogens are interesting in their own right (see Tanya Roberts and David Smallwood, 1991).
who get sick, 1individual out of 1,000 will die annually. The average cost for medical expenses and productivity losses from a mild case of salmonel- losis is $220.
Given this information, "informed" bids were elicited in trials 11-20.
The computer randomly selected one of the 20 trials as binding. The highest bidder paid the displayed second-highest bidding price and ate the stringently screened food. The highest bidder's take-home income was $15 minus the price paid for the screened food product. The other bidders ate the test product and took home $15. Note that the subjects had to eat the food item to leave the experiment with the take-home income.
Table 1summarizes the experimental de- sign for both the WTP and WTA exper- iments. One hundred forty-two subjects participated in the experiment. Each experi- mental session included between 12 and 15 subjects. All were undergraduate and grad- uate students from Iowa State University (ISU), recruited campus-wide. Note that a subject participated in either the WTA or the WTP experiment, not both. Also, each subject was only confronted with one food- borne pathogen description, not all five, re- gardless of whether that subject was in the WTA or the WTP experiment. After each subject read the instructions and answered a set of questions to test his or her under- standing of the experiment and the monitor answered all relevant questions, the experi- ment began. All experiments were conducted in the ISU meat-testing laboratory with modern kitchen facilities. The ISU meat lab conducts food-tasting experiments on a regular basis. The lab is actively in- volved in all aspects of meat processing and handling, thereby providing a unique setting for our experiment.
111. Results and Discussion
Overall, we cannot reject the convergence proposition. Table 2 and Figure 2 illustrate that the WTP and WTA measures of value for the market good were not significantly different, with the exception of the first
Experiment Procedure Willingness to pay (WTP) Willingness to accept (WTA) Stage 1 (market good; five trials; Vickrey second-price, sealed-bid auction; one trial binding):
Initial conditions $3 income; small piece of candy $3 income; regular-size brand-name candy bar
Auctioned good regular-size brand-name candy bar small-piece of candy
Value measure WTP to exchange piece of candy WTA to exchange candy bar for small for candy bar piece of candy
Stage 2 (nonmarket good; 20 trials [10 naive, 10 informed]; one trial binding; Vickrey auction; five food-borne pathogens [Campylobacter, Salmonella, Staphylococcus aureus, Trichinella spiralis, Clostridium perfringens]):
Initial conditions $15 income; typical food product with $15 income; stringently screened food average health risk from food-borne pathogens
Auctioned good stringently screened food with one in 100 typical food product million chance of health risk from food-borne pathogen
Value measure WTP to exchange typical food product WTA to exchange screened food for screened food product product for typical food product
TABLE 2-COMPARISON OF MEAN WTP AND WTA IN CANDY-BAREXPERIMENT
Ho:WTP =WTA H,: WTP <WTA
|measure||Trial 1||Trial 2||Trial 3||Trial 4||Trial 5|
Notes: The sample size for the WTP experiments was n = 68; the sample size for the WTA experiment was n = 74. Sample standard deviations are in parentheses.
aOne-tailed t test.
bMann-Whitney U test.
*Ho rejected at the 5-percent significance level. ** Ho rejected at the 1-percent significance level.
trial. The mean values and standard devia- contingent-valuation method. The average tions by trial are presented in the table. WTP-WTA difference in the initial bid Repeated participation in the auction mar- equaled 11 cents, and the null hypothesis ket caused the values to converge (also see that WTP and WTA were equal is rejected Coursey et al. ). Trial 1represents the at the 5-percent significance level. The value inexperienced bid analogous to the disparity converged, however, to a differ
0 Average WTA .Average WTP ence of 6 cents in trial 2, which is not
statistically significant. By trials 3, 4, and 5, the average WTP and WTA values converged to differences between 1 cent and 3 cents. We cannot reject the hypothesis of equality of the WTP and WTA measures. In addition, the results in Table 2 support Randall and Stoll's (1980) prediction that
o,30 the value for goods with limitless substitu-
tion will also converge to the average mar-
I I I I
0.20 ket price. Because we are exchanging a small
2 3 4 5 TRIAL piece of candy worth about 10 cents for a
candy bar worth about 50 cents, the ob-
FIGURE2. WTP AND WTA COMPARISON:
served average value near 40 cents is strik-
ing. With perfect substitution, value measures converged, and they converged on the average market price.
Tables 3 and 4 and Figures 3-7 illustrate that the majority of the WTA measures for
TABLE3-COMPARISONOF WTP AND WTA FOR FIVE PATHOGENS WITHOUTELIMINATION
H,: WTP = WTA
|HI: WTP < WTA|
|Pathogen (probability||Value||Inexperienced (1st trial)||Naive (trials 7-10)||Informed (trials 17-20)|
|of illness)||measure||Mean ($1||t||U||Mean ($1||t||U||Mean ($1||t||U|
Salmonella WTP (1/137,000) WTA
Staphylococcus WTP aureus
Trichinella WTP spiralis
Clostridium WTP perfringens
Notes: Sample sizes are as follows: Camplyobacter (WTP = 15, WTA = 141, Salmonella (WTP = 15, WTA = 15), Staphylococcus aureus (WTP = 12, WTA = 151, Trichinella spiralis (WTP = 13, WTA = 151, Clostridium perfringens (WTP = 13, WTA'= 15). Columns for t and U report results of one-tailed t tests and Mann-Whitney U tests, respectively. Sample standard deviations are in parentheses.
*Ha rejected at the 5-percent significance level. * * Ha rejected at the 1-percent significance level.
TABLE 4-COMPARISON OF WTP AND WTA FOR FIVEPATHOGENS
Pathogen (probability of illness)
Trichinella spiralis (1/2,628,000)
|Hn:WTP = WTA|
|Inexperienced (1st trial)||Naive (trials 7-10)||Informed (trials 17-20)|
|Mean ($1||t||U||Mean ($1||t||U||Mean ($1||t||U|
Notes: Sample sizes are as follows: Camplyobacter (WTP = 13, WTA = 121, Salmonella (WTP = 13, WTA = 13), Staphylococcus aureus (WTP = 10, WTA = 131, Trichinella spiralis (WTP = 11, WTA = 131, Clostridium perfringens (WTP = 11, WTA = 13). Columns for t and U report results of one-tailed t tests and Mann-Whitney U tests, respectively. Sample standard deviations are in parentheses.
*Denotes rejection of H, at the 5-percent significance level.
**~enotes rejection of H, at the 1-percent significance level.
the nonmarket good significantly exceed the WTP measures. This holds for both the naive bids (trials 7-10) and the informed bids (trials 17-20). Note that the WTP and WTA measures for each pathogen are ex- amined with two mean values: without elim- ination of the highest and lowest bids and with elimination. Again mean values and standard deviations are presented in the tables. We consider elimination to explore Robin Gregory and Lita Furby's (1987) ar- gument that values are extremely sensitive to one or two outliers (also see Robert C. Mitchell and Richard T. Carson ). This work reexamined Coursey et al.'s (1987) su- crose octa-acetate (SOA) experiment with elimination of outliers and found that the results of value convergence depend on in- clusion of an outlier. To illustrate the ro- bustness of our results, we consider values with and without the elimination of outliers.
Means of the WTP experiment without elimination of outliers closely coincided with the means with elimination. In the WTA experiment, outliers change the majority of the mean values, especially for Salmonella, Staphylococcus aureus, and Trichinella spi- ralis. For the initial bid in trial 1, we ob- served extremely high WTA values. For Salmonella, the mean WTA is more than 13,000 times greater than the mean WTP without elimination and is still 3,000 times greater with elimination. WTA for Clostrid- ium perfringens is 47 times greater than WTP without elimination. WTA divergence for the other pathogens ranges from four to
VOL. 84 NO. I SHOGREN ETAL.: WILLINGNESS TO PAY/ ACCEPT
Average WTP 0WTP wlellm~nat~onAAverage WTA WTA wl ellmlnation I
FIGURE3. WTP AND WTA COMPARISON:
FIGURE4. WTP AND WTA COMPARISON:
.Averace WlF 0W~PWTA wi el~ml~bon
wlelimi~bon AAveraae WTA
1 2 3 4 5 6 7 8 9 1011121314151617181920 TRlAL
FIGURE5. WTP AND WTA COMPARISON:
0.1 1 2 3 4 5 6 7 8 9 1011121314151617181920
FIGURE6. WTP AND WTA COMPARISON:
.Average WTP 0WTP wl ellml~bm AAverage WTA WTA wl ellmlmbon 100
1 2 3 4 5 6 7 8 9 1011121314151617181920 TRlAL
FIGURE7. WTP AND WTA COMPARISON:
34 times greater than that for WTP in trial
1. For the initial bid, we performed a one-tailed t test and the Mann-Whitney rank-sum U test to test the significance of the divergence of WTP and WTA. According to the rank-sum test, the null hypothesis of all pathogens, that WTP and WTA values are from the same parental population, is rejected at the 5-percent significance level.
For most of the naive bids (trials 7-10), the average bidding prices stay relatively constant in both the WTP and the WTA bids. This result is consistent with Coursey's (1987) observation that Vickrey auctions usually stabilize by the sixth or seventh trial. The mean WTA for trials 7-10 ranges from approximately three times greater than that of the mean WTP for Campylobacter to approximately 18 times greater than that of the mean WTP for Salmonella without elim- ination. With elimination of outliers, the results indicate that the mean WTA is from two to six times greater than the mean WTP. The disparities between WTP and WTA for each pathogen are tested by per- forming a multivariate analysis3 and a U test. Although the WTP and WTA experi- ments are statistically independent, we used multivariate analysis to account for the between-trial correlation among bids from the same subjects. For most pathogens, the difference between WTP and WTA in the naive bids is statistically significant, based on t tests, both with and without elimina- tion of outliers. The WTP-WTA difference for the Salmonella experiment is statistically insignificant according to a test without elimination, but significant with elimination.
For the informed bids (trials 17-20), we observed that bids initially increased from the information shock. The WTP experi- ments have a smaller increase relative to the WTA experiments. Again, after six trials with information, the mean WTP bid stabi- lizes. Mean WTA bids converge to lower values, with some variation in the last two
3~etX,j, be the subject's kth bid in the jth trial of the ith group, with i = 1,2 (i = 1, WTP experiment; i = 2, WTA experiment), j = 7,8,9,10 (trial), and k = 1,2,.. . ,ni (number of subjects in experiment). Because XI,, and XI,,, (j + j') are not independent (measured repeatedly), multivariable analysis or split plot design can be applied. Suppose vector Xi = (Xi,,, Xi,,, Xi,9, Xi,loY (i = 1,2) -MVN(pi, Xi) where pi = (ll.i,7,.. . ,CL~,~,,Yand where Zi is the correspond- ing variance-covariance matrix. Consider = alXi where a' = t(l, 1, 1,l)' (i = 1,2). Then Yl = a(~,,,+
Xl,8 + Xl,9 + Xl,lO) and Y2 = a(x2,7 + X2,8 + X2,9 + X,,,,) are normally distributed w~th mean alp1 and atp2 and variance afZ1a and a1Z2a, respectively. Be- cause Yl and Y2 are independent, (Yl -Y2) is normally distributed with mean (alpl-a1p2) and variance (a'Z1a+a1X2a). There are nl and n, samples from the WTP and the WTA experiments, respectively (i.e., using YI,I,...YI,,, and YZ, I,... ~2,~~). To test the null hypothesis that there is a difference between the WTP and WTA experiments, we can use the t test for the difference of the mean between the WTP and WTA experiments (see Richard A. Johnson and Dean W. Wichern, 1988).
or three trials. For trials 17-20, the differ- ences between WTP and WTA range from threefold to fivefold for Salmonella, Campy- lobacter, and Clostridium perfringens. The WTP and WTA bids for these three pathogens are statistically significant with and without elimination of outliers. Trichinella spiralis bids were significantly different with elimination, but not different without. Staphylococcus aureus bids were not significantly different, either with or without elimination.
In sum, we cannot reject the convergence proposition. For the market good with close substitutes, WTP and WTA measures of value are not statistically different with re- peated market exposure. In contrast, for the nonmarket good with imperfect substitutes, WTP and WTA measures are significantly different, even after repeated market partic- ipation and with full information about the probability and severity of the health risk. Our results support Hanemann's (1991) proposition that the degree of substitution drives the divergence between value measures.
IV. Substitution versus Endowment Effects
An alternative explanation of the WTP-WTA divergence has been put forth by Kahneman et al. (1990). They argue that there may be a fundamental "endowment effect" underlying the theory of choice (also see Knetsch [19891). The endowment effect exists when an individual becomes attached to the good because he or she is often rewarded for doing so in many contexts. This attachment induces the individual to demand a higher level of compensation than he or she was originally willing to pay.
The inability to substitute goods may be the underlying motivation behind Kahneman et al.'s (1990) observations of an en- dowment effect. They recognize this possi- bility, stating that ". . . endowment effects will almost certainly occur when owners are faced with an opportunity to sell an item purchased for use that is not easily replace- able" (p. 1344). If the endowment effect was not driven by substitutability, we should have observed a divergence in value measures for the candy bar, which we did not.
At the request of a reviewer, we ran an additional experiment to explore more rig- orously the relationship between the substi- tution effect and the endowment effect. Kahneman et al.'s work suggests that per- haps an endowment effect can exist for a good with available substitutes if the sub- jects have less information on its value and cost. For a Cornell coffee mug available at the campus store, Kahneman et al. (1990) observed sellers demanding twice the com- pensation that buyers were willing to pay, a pattern that remained unchanged with mar- ket experience (see their tables 3 and 4, pp. 1334-35). Because we did not observe an endowment effect for our candy-bar treat- ments, this suggests a potential threshold where the importance or size of the endow- ment drives behavior.
To test for a possible endowment effect we repeated our experiment, but the auctioned good was now an Iowa State coffee mug available from the campus bookstore for $5.20. All design aspects followed as closely as possible to our earlier experiments: a Vickrey auction, 15 subjects per treatment, mugs placed directly in the sub- ject's hands, a $15 initial endowment, and repeated market participation (ten trials for the ISU mug stage). In addition, we repli- cated the initial candy-bar stage ($3 initial endowment and five trials) to maintain con- sistency with the food-borne pathogen treat- ments. The baseline treatment was a WTP auction that allowed the highest bidder to upgrade his or her plain plastic mug (worth $1.60) for an ISU mug. We compared two WTA treatments to the WTP baseline. The first treatment was a WTA auction where the low bidder would receive compensation (second-lowest bid) for exchanging his or her ISU mug for a plain mug. The second treatment was identical to the first, except now subjects were told they could purchase (at the market price) an unlimited number of ISU mugs right outside the door immedi- ately after the experiment. This eliminated any transaction costs that could create fric- tion in trade. Our hypothesis is summarized below.
PROPOSITION 2 (Endowment Proposition): If the endowment effect exists, then the willingness to accept compensation will exceed the willingness to pay for the market good (Iowa State coffee mug) with or without zero transactions costs.
If we observe a persistent divergence of value measures with repeated market expe- rience, a fundamental endowment effect may well exist in goods that have available substitutes but have some degree of uncer- tainty regarding value and cost. However, if we observe a convergence of value measures for both treatments, we can reject the en- dowment proposition. Our results then cast doubt on the generality of Kahneman et al.'s evidence and provide more support for Hanemann's argument on the impor- tance of the substitution effect.
Overall, we reject the endowment propo- sition. Table 5 and Figure 8 illustrate the results for all subjects. Although for the initial trial mean WTA exceeds mean WTP by ratios of 2.74 and 2.76 to 1 for the two treatments, by trial 4 the ratio nearly equals unity: 1.03 and 1.06. Clearly, the value mea- sures converged, a pattern generally consis- tent in the remaining trials. Considering the last three experienced trials (trials 8-10), the WTA/WTP ratio equals 1.08 and 1.05 for the two treatments. We cannot reject the null hypothesis of equality of WTP and WTA either without or with elimination of outliers at the 5-percent level (without elim- ination, t = -0.2412 and t = -0.1509 for treatments 1 and 2; with elimination, t = 0.1768 and t = 0.3813 for treatments 1 and 2). This holds for the Wilcoxon rank-sum test as well (Z= 0.996, Z= 0.975, Z= 1.103, and Z = 1.206 for treatments 1and 2 with- out and with eliminati~n).~
We do not observe a fundamental endow- ment effect under our experimental proce- dures, contrary to the findings reported by Kahneman et al. (1990). There are numer- ous differences between our experimental
4~otethat the stage-1 candy-bar experiments fol- lowed an identical pattern to the earlier runs. In trial 1, the average WTA was $0.73 while the average WTP was $0.38. But by trial 3, average WTA and WTP equaled $0.37 and $0.36. Again, values converged, and they converged to the differential market price.
TABLE 5-COMPARISON OF MEAN WTP AND WTA BIDS (IN DOLLARS) IN MUG TREATMENTS
Trial Treatment n 1 2 3 4 5 6 7 8 9 10 WTP, baseline 15 2.37 2.40 2.89 2.90 2.70 2.86 2.74 2.62 2.68 3.09 withoutmugsale (1.484) (1.275) (1.111) (1.072) (1.047) (1.139) (1.022) (1.291) (1.187) (1.357)
WTA, without 15 6.55 4.17 3.19 3.06 2.88 4.14 3.53 3.25 3.12 2.30 ISU mug sale (4.894) (3.261) (2.990) (2.401) (1.903) (5.125) (3.411) (3.632) (2.522) (1.970)
WTA, with 15 6.50 4.74 3.67 2.98 3.27 3.75 2.65 3.13 3.29 2.49 ISU mug sale (4.452) (4.147) (3.202) (3.104) (3.262) (4.331) (2.746) (3.010) (3.135) (2.175)
Note: Sample standard deviations are in parentheses.
0 WTA wl lSU mus sale H WTP wlo mua sale A WTA wlo mua sale
FIGURE8. WTP AND WTA COMPARISON: ISU MUGS (AVERAGE VALUES)
design and that of Kahneman et al., and our use of the Vickrey auction may play a role (see e.g., John H. Kagel et al. [I9871 on overbidding). Regardless of why our results differ from Kahneman et al., we observe the convergence of WTP and WTA values for the candy-bar and coffee-mug treatments but a persistent divergence in the values for the food-borne pathogen treatments. Hane- mann's (1991) substitution effect appears to organize observed valuation behavior in a predictable fashion. Future research should continue to compare how alternative elicita- tion mechanisms affect revealed values in experimental markets, holding constant monetary incentives, opportunity for market expkience, subject pools, and the auctioned or traded good.
The divergence in WTP and WTA mea- sures of value has troubled economists for the past decade. The divergence led Ronald
G. Cummings et al. (1986) to recommend in their "reference operating conditions" (pp. 102-9) for contingent valuation of environ- mental goods that only WTP measures be elicited in the attempt to value nonmarket goods. Hanemann (1991) has offered an ex- planation grounded in economic theory that may calm the fears that the divergence is some form of cognitive mistake. Our experi- mental results support his argument that the degree of substitutability between goods may drive the difference between WTA and WTP measures of value. For market goods with close substitutes which are readily available in commercial outlets with mini- mal transaction costs (i.e., candy bars and coffee mugs), we find that WTP and WTA value measures converge. In contrast, for a nonmarket good with no close substitutes (i.e., reduced health risk), the value mea- sures diverge and persist, even with repeated market participation and full infor- mation on the nature of the good.
Further research on discrepancies between willingness-to-pay and willingnessto-accept measures of valuation is clearly needed. First, researchers should replicate our experiment to test the robustness of our findings. Second, researchers should improve the understanding of substitutability when conducting field studies in nonmarket valuation. As shown by Brookshire and Coursey (1987), wild discrepancies in mea- sures of value may well be only an artifact of survey methods that do not employ re- peated market experience and real payments. However, with truly unique private or public goods that have limited substi- tutes, Hanemann predicts a wide divergence in question could improve the correspon- of value. Defining an individual-specific in- dence between economic theory and obdex of substitution for the nonmarket good served phenomena.
APPENDIX Experimental Znstructions [Exact Transcript]
You are about to participate in an experiment about decision making. Please follow the instructions carefully. The United States Department of Agriculture has provided funds for this research.
In this experiment, you will be asked to decide how much you would be willing to pay for safer food [to decide the minimum amount you would be willing to accept for taking the test product food, instead of keeping your safer food]. The experiment has two stages.
Your starting income will be $3 in stage 1. Your income will be $15 for stage 2. Your take-home income will consist of your initial income ($3+$15) minus [plus] the values of goods purchased.
You will submit your bidding price on a recording card. Note only one of the trials in stage 1will be binding and only one of the twenty trials in stage 2 will be binding. A number will be randomly selected to identify these binding trials.
You cannot reveal your bids to any other participant. Any communication between bidders during a trial will result in an automatic penalty of $3.
Step 1: You own the candy [candy bar] free in front of you. Your initial income is $3.
Step 2: Let's say you are willing to pay $X for the piece of candy and $Y for a candy bar. The difference ($Y -$X) is what you are willing to pay to upgrade your piece of candy for a candy bar. Please indicate your willingness to pay to trade the piece of candy for a candy bar. Do not state what you would pay for an entire candy bar. Only state the difference ($Y -$X) you are willing to pay.
Step 3: Please write your bid (difference) for the one candy bar on the recording card. The monitor will announce the highest bidder and display the price of the candy bar (second-highest bidding price) on the blackboard.
Note: For example, if the highest bid was $a and the second-highest was $P, the highest
bidder would receive the candy bar and must pay $P. Step 4: There will be five trials. Step 5: Only one trial will be binding. After the five trials, a number will be randomly
selected to determine which trial is binding. The highest bidder of that trial will exchange the piece of candy for the candy bar and must pay the displayed price (i.e., the second-highest bid).
Note: In the event that there is a tie for the highest bid, those participants will be asked to bid again.
Please answer the following questions, which are designed to help you understand stage 1. Do not hesitate to ask the researchers if you have questions.
- Suppose that person A is the highest bidder in the first trial, person B is the highest bidder in third trial, and person C is the highest bidder in fifth trial. If, after five trials are finished, we randomly select the third trial, then who will purchase the candy bar?
- If your $a bid is the highest in the third trial, and the second-highest bid is $P, what price will you pay for the candy bar? $
- If your bid is not the highest in the third trial, which is randomly selected, how much should you pay for the piece of candy? $
Step 1: There are two types of food. The features are each described below.
Test Product Stringently Screened
This food has a typical chance This food has been subjected to of being contaminated with the stringent screening for food-borne pathogen Salmonella ; Salmonella. There is a 1in
i.e., it is purchased from a 100,000,000 chance of getting
local source. salmonellosis from consuming
Step 2: You own a test product sandwich free in front of you. Everyone has the same sandwich. You also have initial income, $15. Step 3: Let's say you are willing to pay $X for the test product sandwich and $Y for the stringently screened sandwich. The diference ($Y -$X) is what you are willing to pay to reduce the risk of illness from the food-borne pathogens. Please indicate your willingness to pay to reduce the risk of illness. Do not state what you would pay for the entire stringently screened sandwich. Only state the diference ($Y -$X) you are willing to pay. The highest bidder will upgrade his or her test product sandwich for the stringently screened sandwich. He or she will pay the second-highest bidder's price. Step 4: There will be twenty trials. Step 5: After all twenty trials are complete, we will randomly select one binding trial to determine who buys the stringently screened food. Note: The sandwich has to be eaten to leave with the take-home income.
Please answer the following questions, which are designed to help you understand stage 2. Do not hesitate to ask the researchers if you have questions.
- There are twenty bidding trials. If person A is the highest bidder in the first trial, person B is the highest bidder in the eighteenth trial, and the eighteenth trial is selected, then who will receive the stringently screened food?
- If your $a bid is the highest in the eighteenth trial, and the second highest bid is $P, what price will you pay for the stringently screened food? $
Not& Please answer the questions below.
- What do you think is the chance of becoming ill from Salmonella, given that you eat an average amount of typical food products in the United States over one year?
- What do you think are the important sources of the food-borne pathogen, Salmonella, in
Answer: chance out of 1million people the United States?
Please list the type of food items. Information for Trials 11-20
in 137,000 chance that you will become ill from Salmonella.
Description of Salmonellosis:
This food has been subjected to stringent screening for Salmonella. There is a 1in 100,000,000 chance of getting salmonellosis from consuming this food.
Symptoms are those of a mild "flu-like" intestinal disease of short duration with abdominal pains, nausea, vomiting, and diarrhea. The actual individual choice of infection of Salmonel- losis is 1in 125 annually. Of those individuals who get sick, 1individual out of 1,000 will die annually. The average cost for medical expenses and productivity losses from a mild case of
Salmonellosis is $220.
Bennett, John V.; Holmberg, Scott D.; Rogers, Marta F. and Solomon, Steven L. "Infectious and Parasitic Diseases," in R. W. Arnler and H. B. Dull, eds., Closing the gap: The burden of unnecessary illness. New York: Oxford University Press, 1987, pp. 102-14.
Brookshire, David S. and Coursey, Don L. "Measuring the Value of a Public Good: An Empirical Comparison of Elicitation grocedures." American Economic Review, September 1987, 77(4), pp. 554-66.
Coppinger, Vikki; Smith, Vernon L. and Titus, Jon. "Incentives and Behavior in English, Dutch and Sealed-Bid Auctions." Economic Inquiry, January 1980, 18(1), PP. 1-22.
Coursey, Don L. "Markets and the Measure- ment of Value." Public Choice, October 1987, 55(3), pp. 291-97.
Coursey, Don L.; Hovis, John J. and Schulze, William D. "The Disparity between Will- ingness to Accept and Willingness to Pay Measures of Value." Quarterly Journal of Economics, August 1987, 102(3), pp. 679-90.
Cummings, Ronald G.; Brookshire, David S. and Schulze, William D. Valuing environmental goods: An assessment of the contingent valuation method. Totowa, NJ: Rowman and Allanheld, 1986.
Gregory, Robin and Furby, Lita. "Auctions, Experiments and Contingent Valuation." Public Choice, 1987, 55(3), pp. 273-89.
Hanemann, W. Michael. "Willingness to Pay and Willingness to Accept: How Much Can They Differ?" American Economic Review, June 1991, 81(3), pp. 635-47.
Hammack, Judd and Brown, Gardner M., Jr. Waterfowl and wetlands: Toward bioeco- nomic analysis. Baltimore, MD: Johns
Hopkins University Press, 1974.
Johnson, Richard A. and Wichern, Dean W. Applied multivariate statistical analysis, 2nd Ed. Englewood Cliffs, NJ: Prentice Hall, 1988.
Kagel, John H.; Harstad, Ronald M. and Levin, Dan. "Information Impact and Allocation Rules in Auctions with Affiliated Private Values: A Laboratory Study." Economet- rica, November 1987, 55(6), pp. 12751304.
Kahneman, Daniel; Knetsch, Jack L. and Thaler, Richard H. "Experimental Tests of the Endowment Effect and the Coase Theo- rem." Journal of Political Economy, December 1990, 98(6), pp. 1325-48.
Kentsch, Jack. "The Endowment Effect and Evidence of Nonreversible Indifference Curves." American Economic Review, December 1989, 79(5), 1277-84.
Knetsch, Jack L. and Sinden, John A. "Willingness to Pay and Compensation Demanded: Experimental Evidence of an Unexpected Disparity in Measures of Value." Quarterly Journal of Economics, August 1984, 99(3), pp. 507-21.
Layard, P. R. G. and Waiters, A. A. Microeconomic theory. New York: McGraw-Hill, 1978.
Mitchell, Robert C. and Carson, Richard T. Using surveys to value public goods: The contingent valuation method. Washington, DC: Resources for the Future, 1989.
Randall, Alan and Stoll, John R. "Consumer's Surplus in Commodity Space." American Economic Review, June 1980, 71(3), pp. 449-57.
Roberts, Tanya. "Human Illness Costs of Food-Borne Bacteria." American Journal of Agricultural Economics, May 1989, 71(2), pp. 468-74.
Roberts, Tanya and Smallwood, David. "Data Needs to Address Economic Issues in Food Safety." American Journal of Agri- cultural Economics, August 1991, 73(3), pp. 933-43.
Rowe, Robert D.; d'Arge, Ralph C. and Brook- shire, David S. "An Experiment on the Economic Value of Visibility." Journal of Environmental Economics and Management, March 1980, 7(1), pp. 1-19.
Shogren, Jason F. "The Impact of Self-Pro- tection and Self-Insurance on Individual Response to Risk." Journal of Risk and Uncertainty, June 1990, 3(2), pp. 191-204.
Vickrey, William. "Counterspeculation, Auc- tions, and Competitive Sealed Tenders." Journal of Finance, March 1961, 16(1), pp. 8-37.
Willig, Robert. "Consumer's Surplus Without Apology." American Economic Review, September 1976, 66(4), pp. 589-97.