Silver linings For this question, suppose your value function is v (x) = √x/2 for gains and v (x) = −2√|x| for losses. Last night, you lost $9 in a bet. There was a silver lining, though: on your way home, you found $2 lying on the sidewalk.

(a) If you integrate the loss and the gain, what is the total value?

(b) If you segregate the loss and the gain, what is the total value?

(c) From the point of view of value, is it better to integrate or to segregate? When do people integrate and when do they segregate? One possibility that might come to mind is that people bundle outcomes so as to maximize the amount of value that they experience. This is called the hedonic-editing hypothesis. According to this hypothesis, people will (1) segregate gains, (2) integrate losses, (3) cancel a small loss against a large gain, and (4) segregate a small gain from a large loss. Unfortunately, data suggest that the hypothesis is not in general true. In particular, it seems, people frequently fail to integrate subsequent losses. If you think about it, the failure of the hedonic-editing hypothesis is unsurprising in light of the fact that we need parents, therapists, boyfriends, and girlfriends to remind us of how to think about things in order not to be needlessly unhappy. Bundling may be driven in part by mental accounting: people’s tendency, in their minds, to divide money into separate categories. Mental accounting can be helpful in that it may prevent overspending. If the mental “clothing” account is seen as depleted, people may stop spending money on clothing even if there are funds left in some other mental account. But mental accounting can itself cause people to overconsume or underconsume particular kinds of goods. If the “entertainment account” is seen as having money left in it, but the “clothing account” is seen as overdrawn, people might spend more on entertainment even though they would maximize utility by buying clothes. This kind of behavior violates fungibility: the idea that money has no labels. Mental accounting might also affect the manner in which goods are bundled. For example, coding goods as belonging to the same category is likely to encourage integration, whereas coding goods as belonging to separate categories is likely to encourage segregation.