Comparisons as Information

We propose a simple and portable information-theoretic model of choice that formalizes several phenomena at the core of behavioral economics. The decision maker in our model has incomplete information: he is uncertain how to value options. To reduce this uncertainty, he relies on reference points as a source of comparative information. The reference point is endogenous to the environment and given by the option that is most informative for comparisons. Other choice options and past choice sets also serve as sources of comparative information. The simple ideas of value uncertainty and comparative information provide natural cognitive and information-theoretic foundations for reference dependence (thinking in gain-loss categories); income targeting and bunching; behavioral attenuation and diminishing sensitivity; contrast effects; decoy effects; counting advantages; overweighting high-variance dimensions; habit formation; status quo bias; and similarity-based analogical reasoning. The model makes new predictions about when the reference point is given by rational expectations, similarity-based memory, social comparisons, or the status quo.