The evolution of the endowment effect

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Abstract People often value an item more when they own it than when it is available for purchase, and consequently are relatively reluctant to trade. This is the “endowment effect”, which has been widely documented in human populations and also in some non-human species. This paper develops a simple model in which it is adaptive to have a bias against trade, potentially explaining the basis of the endowment effect. The bias against trade arises from the strategic nature of trade in a moderately competitive environment: the interest of a potential trading partner in making the exchange is evidence that the decision maker already has the more valuable object. The model predicts that an endowment effect is promoted by large uncertainty about the fitness value of items, and also by conditions in which there are on average small gains to be had from trade. Because the model employs a simple bounded rationality heuristic for trade, it explains how the endowment effect could arise in species that lack theory of mind and related strategic reasoning abilities. The model also suggests an explanation for why endowment effects are so rarely observed in biological markets that exist between species. Because the trading classes have very different fitness functions, there is negligible competition across those classes. Consequently, there are substantial mutual gains to trade, so our model predicts there is unlikely to be adaptive pressure for an endowment effect.