Abstract:
Observed preference reversal (PR) cannot be adequately explained by violations of
independence, the reduction axiom, or transitivity. The primary cause of PR is the
failure of procedure invariance, especially the overpricing of low-probability
high-payoff bets. This result violates regret theory and generalized (nonindependent)
utility models. PR and a new reversal involving time preferences are
explained by scale compatibility, which implies that payoffs are weighted more
heavily in pricing than in choice. (JEL 215)