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Loss Aversion

Loss aversion refers to a behavioural bias where people seem to focus more or weight more on a potential loss more than a potential gain. A loss is more painful to people than an equivalent gain is rewarding to them. People seem to be motivated more by losses than gains of a similar magnitude. In other words, the disutility of losing £20 is greater than the positive utility of gaining £20.

The term loss aversion first appeared in a 1979 paper by psychologists Daniel Kahneman and Amos Tversky who developed prospect theory.

One application of loss aversion is that stock market investors might decide to hang on to a stock that has lost value even though any current rational analysis of the stock clearly indicates that it should be abandoned as an investment and that the investor should cut their losses.

One way of initiating behavioural change might be to tie people to commit some of their money to a deposit which they only get back if they have reached their behavioural goals such as weight loss or a period without drinking or smoking. The motivation to avoid the loss of the deposit committed to the contract might be a way of bringing about changing people's behaviour.

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