Anchoring and Mental Accounting and Why We Do Them

Essay Questions #9
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1. What is anchoring? Explain the social security number experiments. Explain the number of countries from Africa in UN experiments.
Anchoring refers to the utilization of irrelevant information as a basis for measuring or calculating the uncertain value of a financial instrument.
The social security number experiments.
In this experiment, 55 students were asked to write down the last two digits of their social security numbers, in addition to whether they would agree making some payments using the same numbers to purchase some electronics and wine. Also, there was some emphasis on whether they would indeed make these payments. The results showed that those who had a higher number made the highest bid, compared to those with a lower number, who made the lowest bids.
Participant African nations in UN experiments
A when was designed, with numbers starting from 1 to 100. It was then spinned before an audience that was thereafter asked about the number of countries therein from Africa. Those who saw number ten on the wheel were a median of 25%. Those who saw one hundred on the wheel were a median of 45%. The experiment was clear testament that even numbers that are clearly meaningless can still play a key role in anchoring.
2. Why do we do anchoring?
It is done because it provides a rough estimate in determining the specific value of an asset by calculating the uncertain value of a financial instrument.
3. How can anchoring impact finance? How can anchoring impact real estate? Use examples from the slides in your answers.
IPOs derive their starting prices as a result of anchoring. It is also used in valuation exercises in finance, for instance, the starting values and the growth rates.
Anchoring in real estate is used in the context of real estate appraisals.
For example, in slides 193-194, there was a random selection of two groups of real estate agents. These two groups were taken to go and perform some appraisal of a certain house. They were furnished with identical information and everything surrounding them was also quite identical. Perhaps the only different thing between these two groups was the price list. One was given a price list of 65,900 while the other was given one of 83900. There was clearly a difference of 18000 between the price lists of these two groups. The average list of the 1st group was 67,811, and that of the second group was 75,190. The appraisal was 10% higher because of the anchor.
4. What is mental accounting? Explain the lawnmower experiment. Explain the Boston Celtics example.
Mental accounting refers to the categorization of economic and financial decisions. Investors are expected to treat every dollar as of interchangeable value rather than putting money into different accounts and treating them differently.
The lawnmower experiment.
The experiment is about two instances whereby a person has a chance to purchase a more advanced and effective lawnmower type A305 at $2,250.Compared to the initial common lawnmower type A300 that he intended to buy at $2000. In the first instance in part A, the person gets lucky enough and wins $500 in gambling. Therefore, after getting the $500, what is the probabil...