Inequity aversion (IA) is the preference for fairness and resistance to incidental inequalities. [1] The social sciences that study inequity aversion include sociology, economics, psychology, anthropology, and ethology. Researchers on inequity aversion aim to explain behaviors that are not purely driven by self-interests but fairness considerations.
In some literature, the terminology inequality aversion was used in the places of inequity aversion. [2] [3] The discourses in social studies argue that "inequality" pertains to the gap between the distribution of resources, while "inequity" pertains to the fundamental and institutional unfairness. [4] Therefore, the choice between using inequity or inequality aversion may depend on the specific context.
Inequity aversion research on humans mostly occurs in the discipline of economics though it is also studied in sociology.
Research on inequity aversion began in 1978 when studies suggested that humans are sensitive to inequities in favor of as well as those against them, and that some people attempt overcompensation when they feel "guilty" or unhappy to have received an undeserved reward. [5]
A more recent definition of inequity aversion (resistance to inequitable outcomes) was developed in 1999 by Fehr and Schmidt. [1] They postulated that people make decisions so as to minimize inequity in outcomes. Specifically, consider a setting with individuals {1,2,...,n} who receive pecuniary outcomes xi. Then the utility to person i would be given by
where α parametrizes the distaste of person i for disadvantageous inequality in the first nonstandard term, and β parametrizes the distaste of person i for advantageous inequality in the final term. The results suggested that a small fraction of selfish behaviors may influence the majority with a fair mind to act selfishly in some scenarios, while a minority of fair-minded behaviors may also affect selfish players to cooperate in games with punishment. In addition, the inequity aversion mindset may affect market outcomes even in the presence of very competitive competition.
Gary E Bolton and Axel Ockenfels provided a more general model called ERC (equity, reciprocity, and competition) in 2000. [2] The model built on the premise that not only pecuniary but also relative payoff can motivate behaviors. In this model, all payoffs are monetary and nonnegative and players aim to maximize the expected value of motivation function. The motivation function of individual (i) in n players is given by where is i's relative share of payoff, and is the total pecuniary payout. The results showed that the behaviors in various games, including unknown pie-size games, best-shot games, Bertrand and Cournot games, guessing games etc., can be in fact deduced from ultimatum and dictator games.
Fehr and Schmidt showed that disadvantageous inequity aversion manifests itself in humans as the "willingness to sacrifice potential gain to block another individual from receiving a superior reward". They argue that this apparently self-destructive response is essential in creating an environment in which bilateral bargaining can thrive. Without inequity aversion's rejection of injustice, stable cooperation would be harder to maintain (for instance, there would be more opportunities for successful free riders). [6]
James H. Fowler and his colleagues also argue that inequity aversion is essential for cooperation in multilateral settings. [7] In particular, they show that subjects in random income games (closely related to public goods games) are willing to spend their own money to reduce the income of wealthier group members and increase the income of poorer group members even when there is no cooperation at stake. [8] Thus, individuals who free ride on the contributions of fellow group members are likely to be punished because they earn more, creating a decentralized incentive for the maintenance of cooperation.
Inequity aversion is broadly consistent with observations of behavior in three standard economics experiments:
In 2005, John List modified these experiments slightly to determine if something in the construction of the experiments was prompting specific behaviors. When given a choice to steal money from the other player, even a single dollar, the observed altruism all but disappeared. In another experiment, the two players were given a sum of money and the choice to give or take any amount from the other player. In this experiment, only 10% of the participants gave the other person any money at all, and fully 40% of the players opted to take all of the other player's money.
The last such experiment was identical to the former, where 40% were turned into a gang of robbers, with one catch: the two players were forced to earn the money by stuffing envelopes. In this last experiment, more than two thirds of the players neither took nor gave a cent, while just over 20% still took some of the other player's money.
In 2011, Ert, Erev and Roth [9] ran a model prediction competition on two datasets, each of which included 120 two-player games. In each game player 1 decides whether to "opt out" and determine the payoffs for both players, or to "opt in" and let player 2 decide about the payoff allocation by choosing between actions "left" or "right". The payoffs were randomly selected, so the dataset included games like the Ultimatum, Dictator, and Trust, as well as other games. The results suggested that inequity aversion could be described as one of many strategies that people might use in such games.
Other research in experimental economics addresses risk aversion in decision making [10] and the comparison of inequality measures to subjective judgments on perceived inequalities. [11]
Surveys of employee opinions within firms have shown modern labor economists that inequity aversion is very important to them. Employees compare not only relative salaries but also relative performance against that of co-workers. Where these comparisons lead to guilt or envy, inequity aversion may lower employee morale. According to Bewley (1999), the main reason that managers create formal pay structures is so that the inter-employee comparison is seen to be "fair", which they considered "key" for morale and job performance. [12]
It is natural to think of inequity aversion leading to greater solidarity within the labor pool, to the benefit of the average employee. However, a 2008 paper by Pedro Rey-Biel shows that this assumption can be subverted, and that an employer can use inequity aversion to get higher performance for less pay than would be possible otherwise. [13] This is done by moving away from formal pay structures and using off-equilibrium bonus payments as incentives for extra performance. He shows that the optimal contract for inequity aversion employees is less generous at the optimal production level than contracts for "standard agents" (who don't have inequity aversion) in an otherwise identical two-employee model.
In 2005 Avner Shaked distributed a "pamphlet" entitled "The Rhetoric of Inequity Aversion" that attacked the inequity aversion papers of Fehr & Schmidt. [14] In 2010, Shaked has published an extended version of the criticism together with Ken Binmore in the Journal of Economic Behavior and Organization (the same issue also contains a reply by Fehr and Schmidt and a rejoinder by Binmore and Shaked). [15] [16] [17] A problem of inequity aversion models is the fact that there are free parameters; standard theory is simply a special case of the inequity aversion model. Hence, by construction inequity aversion must always be at least as good as standard theory when the inequity aversion parameters can be chosen after seeing the data. Binmore and Shaked also point out that Fehr and Schmidt (1999) pick a distribution of alpha and beta without conducting a formal estimation. The perfect correlation between the alpha and beta parameters in Fehr and Schmidt (1999) is an assumption made in the appendix of their paper that is not justified by the data that they provide.
More recently, several papers have estimated Fehr-Schmidt inequity aversion parameters using estimation techniques such as maximum likelihood. The results are mixed. Some authors have found beta larger than alpha, which contradicts a central assumption made by Fehr and Schmidt (1999). [18] Other authors have found that inequity aversion with Fehr and Schmidt's (1999) distribution of alphas and betas explains data of contract-theoretic experiments not better than standard theory; they also estimate average values of alpha that are much smaller than suggested by Fehr and Schmidt (1999). [19] Moreover, Levitt and List (2007) have pointed out that laboratory experiments tend to exaggerate the importance of pro-social behaviors because the subjects in the laboratory know that they are being monitored. [20]
An alternative [11] to the concept of a general inequity aversion is the assumption that the degree and the structure of inequality could lead either to acceptance or to aversion of inequality.
Fehr and Schmidt proposed that additional research on the inequity aversion should emphasize explicitly formalizing the role of intentions and conducting more thorough testing of the theory against alternative hypotheses. [21]
Bolton and Ockenfels recommended that the ERC model would benefit from a dynamic theory support and additional research in order to effectively explain more complex games and games that occur over longer time spans. [2] An advanced definition on social preference and a more formal quantitative model would also be worth investigating.
An experiment on capuchin monkeys (Brosnan, S and de Waal, F) showed that the subjects would prefer receiving nothing to receiving a reward awarded inequitably in favor of a second monkey, and appeared to target their anger at the researchers responsible for the inequitable distribution of food. [22] Anthropologists suggest that this research indicates a biological and evolutionary sense of social "fair play" in primates, though others believe that this is learned behavior or explained by other mechanisms.[ citation needed ] There is also evidence for inequity aversion in chimpanzees [23] (though see a recent study questioning this interpretation [24] ). The latest study shows that chimpanzees play the Ultimatum Game in the same way as children, preferring equitable outcomes. The authors claim that we now are near the point of no difference between humans and apes with regard to a sense of fairness. [25] Recent studies suggest that animals in the canidae family also recognize a basic level of fairness, stemming from living in cooperative societies. [26] Animal cognition studies in other biological orders have not found similar importance on relative "equity" and "justice" as opposed to absolute utility.
Fehr and Schmidt's model may partially explain the widespread opposition to economic inequality in democracies, but a distinction should be drawn between inequity aversion's "guilt" and egalitarianism's "compassion", which does not necessarily imply injustice.
Inequity aversion should not be confused with the arguments against the consequences of inequality. For example, the pro-publicly funded health care slogan "Hospitals for the poor become poor hospitals" directly objects to a predicted decline in medical care, not the health-care apartheid that is supposed to cause it. The argument that average medical outcomes improve with reduction in healthcare inequality (at the same total spending) is separate from the case for public healthcare on the grounds of inequity aversion.
Experimental economics is the application of experimental methods to study economic questions. Data collected in experiments are used to estimate effect size, test the validity of economic theories, and illuminate market mechanisms. Economic experiments usually use cash to motivate subjects, in order to mimic real-world incentives. Experiments are used to help understand how and why markets and other exchange systems function as they do. Experimental economics have also expanded to understand institutions and the law.
Evolutionary game theory (EGT) is the application of game theory to evolving populations in biology. It defines a framework of contests, strategies, and analytics into which Darwinian competition can be modelled. It originated in 1973 with John Maynard Smith and George R. Price's formalisation of contests, analysed as strategies, and the mathematical criteria that can be used to predict the results of competing strategies.
The ultimatum game is a game that has become a popular instrument of economic experiments. An early description is by Nobel laureate John Harsanyi in 1961. One player, the proposer, is endowed with a sum of money. The proposer is tasked with splitting it with another player, the responder. Once the proposer communicates their decision, the responder may accept it or reject it. If the responder accepts, the money is split per the proposal; if the responder rejects, both players receive nothing. Both players know in advance the consequences of the responder accepting or rejecting the offer.
In game theory, the centipede game, first introduced by Robert Rosenthal in 1981, is an extensive form game in which two players take turns choosing either to take a slightly larger share of an increasing pot, or to pass the pot to the other player. The payoffs are arranged so that if one passes the pot to one's opponent and the opponent takes the pot on the next round, one receives slightly less than if one had taken the pot on this round, but after an additional switch the potential payoff will be higher. Therefore, although at each round a player has an incentive to take the pot, it would be better for them to wait. Although the traditional centipede game had a limit of 100 rounds, any game with this structure but a different number of rounds is called a centipede game.
The dictator game is a popular experimental instrument in social psychology and economics, a derivative of the ultimatum game. The term "game" is a misnomer because it captures a decision by a single player: to send money to another or not. Thus, the dictator has the most power and holds the preferred position in this “game.” Although the “dictator” has the most power and presents a take it or leave it offer, the game has mixed results based on different behavioral attributes. The results – where most "dictators" choose to send money – evidence the role of fairness and norms in economic behavior, and undermine the assumption of narrow self-interest when given the opportunity to maximise one's own profits.
The public goods game is a standard of experimental economics. In the basic game, subjects secretly choose how many of their private tokens to put into a public pot. The tokens in this pot are multiplied by a factor and this "public good" payoff is evenly divided among players. Each subject also keeps the tokens they do not contribute.
Kenneth George "Ken" Binmore, is an English mathematician, economist, and game theorist, a Professor Emeritus of Economics at University College London (UCL) and a Visiting Emeritus Professor of Economics at the University of Bristol. As a founder of modern economic theory of bargaining, he made important contributions to the foundations of game theory, experimental economics, evolutionary game theory and analytical philosophy. He took up economics after holding the Chair of Mathematics at the London School of Economics. The switch has put him at the forefront of developments in game theory. His other interests include political and moral philosophy, decision theory, and statistics. He has written over 100 scholarly papers and 14 books.
Ernst Fehr is an Austrian-Swiss behavioral economist and neuroeconomist and a Professor of Microeconomics and Experimental Economic Research, as well as the vice chairman of the Department of Economics at the University of Zürich, Switzerland. His research covers the areas of the evolution of human cooperation and sociality, in particular fairness, reciprocity and bounded rationality.
Quantal response equilibrium (QRE) is a solution concept in game theory. First introduced by Richard McKelvey and Thomas Palfrey, it provides an equilibrium notion with bounded rationality. QRE is not an equilibrium refinement, and it can give significantly different results from Nash equilibrium. QRE is only defined for games with discrete strategies, although there are continuous-strategy analogues.
Inequity is injustice or unfairness or an instance of either of the two. Aversion is "a feeling of repugnance toward something with a desire to avoid or turn from it; a settled dislike; a tendency to extinguish a behavior or to avoid a thing or situation and especially a usually pleasurable one because it is or has been associated with a noxious stimulus". The given definition of inequity aversion is "the preference for fairness and resistance to inequitable outcomes".
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Strong reciprocity is an area of research in behavioral economics, evolutionary psychology, and evolutionary anthropology on the predisposition to cooperate even when there is no apparent benefit in doing so. This topic is particularly interesting to those studying the evolution of cooperation, as these behaviors seem to be in contradiction with predictions made by many models of cooperation. In response, current work on strong reciprocity is focused on developing evolutionary models which can account for this behavior. Critics of strong reciprocity argue that it is an artifact of lab experiments and does not reflect cooperative behavior in the real world.
Social preferences describe the human tendency to not only care about one's own material payoff, but also the reference group's payoff or/and the intention that leads to the payoff. Social preferences are studied extensively in behavioral and experimental economics and social psychology. Types of social preferences include altruism, fairness, reciprocity, and inequity aversion. The field of economics originally assumed that humans were rational economic actors, and as it became apparent that this was not the case, the field began to change. The research of social preferences in economics started with lab experiments in 1980, where experimental economists found subjects' behavior deviated systematically from self-interest behavior in economic games such as ultimatum game and dictator game. These experimental findings then inspired various new economic models to characterize agent's altruism, fairness and reciprocity concern between 1990 and 2010. More recently, there are growing amounts of field experiments that study the shaping of social preference and its applications throughout society.
Third-party punishment is punishment of a transgressor which is administered, not by a victim of the transgression, but rather by a third party not directly affected by the transgression. It has been argued that third-party punishments are the essence of social norms, as they are an evolutionarily stable strategy, unlike second-party punishments. It has also been shown that third-party punishments are exhibited in all examined populations, though the magnitude of the punishments varies greatly, and that costly punishment co-varies with altruistic behavior. Differences between within-group and inter-group altruistic punishments have also been observed.
Behavioral game theory seeks to examine how people's strategic decision-making behavior is shaped by social preferences, social utility and other psychological factors. Behavioral game theory analyzes interactive strategic decisions and behavior using the methods of game theory, experimental economics, and experimental psychology. Experiments include testing deviations from typical simplifications of economic theory such as the independence axiom and neglect of altruism, fairness, and framing effects. As a research program, the subject is a development of the last three decades.
Urs Fischbacher is a Swiss economist and professor of applied economic research at the University of Konstanz. He is director of the Thurgau Economic Institute, an affiliated institute of the University of Konstanz. He pioneered the field of software tools for experimental economics.
Inequity aversion in animals is the willingness to sacrifice material pay-offs for the sake of greater equality, something humans tend to do from early age. It manifests itself through negative responses when rewards are not distributed equally between animals. In controlled experiments it has been observed, to varying degrees, in capuchin monkeys, chimpanzees, macaques, marmosets, dogs, wolves, rats, crows and ravens. No evidence of the effect was found in tests with orangutans, owl monkeys, squirrel monkeys, tamarins, kea, and cleaner fish. Based on mixed results in experimental studies it may be concluded that some bonobos, baboons, gibbons, and gorillas are inequity averse. Disadvantageous inequity aversion, which occurs when the animal protests as it gets a lesser reward than another animal, is most common. But advantageous inequity aversion has been observed as well, in chimpanzees, baboons and capuchins: the animal protests when it gets a better reward. Scientists believe that sensitivity to inequity co-evolved with the ability to cooperate, as it helps to sustain benefitting from cooperation. There is little evidence for inequity aversion in non-cooperative species.
Various experiments have been made to evaluate various procedures for fair division, the problem of dividing resources among several people. These include case studies, computerized simulations, and lab experiments.
The gift-exchange game, also commonly known as the gift exchange dilemma, is a common economic game introduced by George Akerlof and Janet Yellen to model reciprocacy in labor relations. The gift-exchange game simulates a labor-management relationship execution problem in the principal-agent problem in labor economics. The simplest form of the game involves two players – an employee and an employer. The employer first decides whether they should award a higher salary to the employee. The employee then decides whether to reciprocate with a higher level of effort due to the salary increase or not. Like trust games, gift-exchange games are used to study reciprocity for human subject research in social psychology and economics. If the employer pays extra salary and the employee puts in extra effort, then both players are better off than otherwise. The relationship between an investor and an investee has been investigated as the same type of a game.
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