Departures from self-interest in economic experiments have recently inspired models of "social preferences". We design a range of simple experimental games that test these theories more directly than existing experiments. Our experiments show that subjects are more concerned with increasing social welfare-sacrificing to increase the payoffs for all recipients, especially low-payoff recipients-than with reducing differences in payoffs (as supposed in recent models). Subjects are also motivated by reciprocity: They withdraw willingness to sacrifice to achieve a fair outcome when others are themselves unwilling to sacrifice, and sometimes punish unfair behavior.

Zweibel, two anonymous referees, and especially Eddie Dekel-Tabak, Jim Fearon, Berkeley's David Levine, and Vai-Lam Mui for helpful comments on earlier drafts of this paper. I also thank the Institute of Business and Economic Research at the University of California-Berkeley for their funding of research assistance and the National Science Foundation (Grant SES92-10323) for financial support.

We develop a model that fleshes out, extends, and modifies existing models of referencedependent preferences and loss aversion while accomodating most of the evidence motivating these models. Our approach makes reference-dependent theory more broadly applicable by avoiding some of the ways that prevailing models-if applied literally and without ancillary assumptions-make variously weak and incorrect predictions. Our model combines the reference-dependent gain-loss utility with standard economic "consumption utility" and clarifies the relationship between the two. Most importantly, we posit that a person's reference point is her recent expectations about outcomes (rather than the status quo), and assume that behavior accords to a personal equilibrium: The person maximizes utility given her rational expectations about outcomes, where these expectations depend on her own anticipated behavior. We apply our theory to consumer behavior, and emphasize that a consumer's willingness to pay for a good is endogenously determined by the market distribution of prices and how she expects to respond to these prices. Because a buyer's willingness to buy depends on whether she anticipates buying the good, for a range of market prices there are multiple personal equilibria. This multiplicity disappears when the consumer is sufficiently uncertain about the price she will face. Because paying more than she anticipated induces a sense of loss in the buyer, the lower the prices at which she expects to buy the lower will be her willingness to pay. In some situations, a known stochastic decrease in prices can even lower the quantity demanded.

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This essay provides a perspective on the trend towards integrating psychology into economics. Some topics are discussed, and arguments are provided for why movement towards greater psychological realism in economics will improve mainstream economics.Abstract: This essay provides a perspective on the trend towards integrating psychology into economics. Some topics are discussed, and arguments are provided for why movement towards greater psychological realism in economics will improve mainstream economics.