An important difference in the way audience members understand story characters is whether they take an actor’s or an observer’s perspective, paralleling the role of an actor or an observer in social interactions. Social psychologists have long identified the actor-observer asymmetry in understanding social events. However, how taking an actor’s or an observer’s perspective might influence understanding story characters has not been systematically examined, and there are no easy-to-use measures of these two narrative processing strategies. Taking the social cognitive approach, this dissertation conceptually distinguishes the actor’s from the observer’s perspective in processing narratives and operationalizes actor-observer perspective (AOP) using multi-dimensional scales. An actor’s perspective is conceptualized as simulating story events from the perspective of an actor actively participating in the behavior; an observer’s perspective is conceptualized as simulating the story events as an onlooker who observes the character’s behaviors and maintains a separate self-identify from the character. Study 1 and Study 2 examined the role of character morality in influencing actor’s and observer’s perspective. Findings suggest people tend to take an actor’s perspective when interpreting moral characters, indicated by the higher level of egocentric projection onto the character, greater identification with the character, paying closer attention to their unintentional behaviors, and providing more external causes to explain these behaviors. In contrast, when processing immoral characters, people tend to take the observer’s perspective by focusing more on intentional behaviors. Study 3 and Study 4 proposed multi-dimensional measurements of actor-observer perspective (AOP) and tested the reliability and validity of the scales. Six indicators of AOP are identified—egocentric projection, understanding from the character’s perspective, external attribution, capability explanation, internal attribution, and intention judgment. The former four elements indicate the actor’s perspective, and the latter two elements indicate the observer’s perspective in processing narratives. Using a persuasive narrative about food safety, Study 4 also found that understanding from the character’s perspective increased the audience’s intention to perform safe food handling practices, whereas egocentric projection reduced such behavioral intention. The theoretical implications of actor-observer perspective in the psychology of narrative and the practical implications of the AOP scales are discussed.