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on Utility Models and Prospect Theory |
| By: | Schunk, Daniel; Winter, Joachim |
| Abstract: | Experimental studies of search behavior suggest that individuals stop searching earlier than predicted by the optimal, risk-neutral stopping rule. Such behavior could be generated by two different classes of decision rules: rules that are optimal conditional on utility functions departing from risk neutrality, or heuristics derived from limited cognitive processing capacities and satisfycing. To discriminate among these two possibilities, we conduct an experiment that consists of a standard search task as well as a lottery task designed to elicit utility functions. We find that search heuristics are not related to measures of risk aversion, but to measures of loss aversion. |
| Keywords: | search; heuristics; utility function elicitation; risk attitudes; prospect theory |
| JEL: | D83 C91 |
| Date: | 2007–02 |
| URL: | http://d.repec.org/n?u=RePEc:lmu:muenec:1377&r=upt |
| By: | José Olmo (Department of Economics, City University, London) |
| Abstract: | We introduce a family of utility functions that describe the preferences of mean-variance-downside-risk (mvdr) averse investors. The risk premium on a risky asset in an economy with these individuals is given by a weighted sum of CAPM systematic risk and a systematic risk given by the level of comovements between the asset and the market in distress episodes. Hence investors require a higher reward than predicted by CAPM for holding assets correlated with the market in distress episodes, and a lower reward for holding assets with negative correlation in market downturns. The application of this pricing theory to financial sectors in FTSE-100 is illuminating. The empirical failure of standard CAPM is explained by the extra reward required by investors from market downturns. While Chemicals and Mining sectors exhibit positive comovements with FTSE downturns; Banking and Oil and Gas sectors are robust to them and Telecommunications Services exhibit negative comovements serving as refugee of investors fleeing from domestic market distress episodes. |
| Keywords: | Asset Pricing, CAPM, Downside-risk, Mean-variance |
| JEL: | G11 G12 G13 |
| Date: | 2007–01 |
| URL: | http://d.repec.org/n?u=RePEc:cty:dpaper:07/01&r=upt |
| By: | Conchita D’Ambrosio (Università di Milano-Bicocca and DIW Berlin); Joachim R. Frick (DIW Berlin, TU Berlin and IZA Bonn) |
| Abstract: | This paper explores the determinants of individual well-being as measured by self-reported levels of satisfaction with income. Making full use of the panel data nature of the German Socio-Economic Panel, we provide empirical evidence for well-being depending on absolute and on relative levels of income in a dynamic framework. This finding holds after controlling for other influential factors in a multivariate setting. The main novelty of the paper is the consideration of dynamic aspects: individual’s own history as well as the relative income performance with respect to the others living in the society under analysis do play a major role in the assessment of well-being. |
| Keywords: | Interdependent Preferences, Inequality Aversion, Status, Subjective Well-Being, SOEP. |
| JEL: | D63 I31 D31 |
| Date: | 2007 |
| URL: | http://d.repec.org/n?u=RePEc:inq:inqwps:ecineq2007-64&r=upt |
| By: | Luca Corazzini, Sebastian Kube, Michel André Maréchal (ISLA, Universita' Bocconi, Milano) |
| Abstract: | Mimicking standard features of electoral accountability and selection models, we conduct a computerized laboratory experiment in order to identify the influence of other-regarding preferences on democratic outcomes. We find that elected candidates are more pro-social towards their constituency the more favorable approval rates are. In contrast, this systematic positive relationship is not observed if the appointment is unintentionally determined by computer. These results suggest that a substantial fraction of candidates is motivated by guilt aversion. We discuss the implications of these findings for the design of democratic institutions. |
| Keywords: | guilt aversion, social preferences, accountability, constitutional design, public choice, experiment. |
| JEL: | A13 H1 D72 C92 |
| Date: | 2007–03 |
| URL: | http://d.repec.org/n?u=RePEc:slp:islawp:islawp27&r=upt |
| By: | David A. Jaeger (College of William and Mary and IZA); Holger Bonin (IZA and DIW); Thomas Dohmen (IZA and DIW); Armin Falk (University of Bonn, IZA, CEPR, and DIW); David Huffman (IZA); Uwe Sunde (IZA, University of Bonn, CEPR, and DIW) |
| Abstract: | Geographic mobility is important for the functioning of labor markets because it brings labor resources to where they can be most efficiently used. It has long been hypothesized that individuals' migration propensities depend on their attitudes towards risk, but the empirical evidence, to the extent that it exists, has been indirect. In this paper, we use newly available data from the German Socio-Economic Panel to measure directly the relationship between migration propensities and attitudes towards risk. We find that individuals who are more willing to take risks are more likely to migrate between labor markets in Germany. This result is robust to stratifying by age, sex, education, national origin, and a variety of other demographic characteristics, as well as to the level of aggregation used to define geographic mobility. The effect is substantial relative to the unconditional migration propensity and compared to the conventional determinants of migration. We also find that being more willing to take risks is more important for the extensive than for the intensive margin of migration. |
| Keywords: | Migration, attitudes, risk |
| Date: | 2007–03 |
| URL: | http://d.repec.org/n?u=RePEc:crm:wpaper:0307&r=upt |
| By: | Copeland, Laurence (Cardiff Business School); Zhu, Yanhui |
| Abstract: | We extend the Barro (2006) closed-economy model of the equity risk premium in the presence of extreme events ("disasters") to a two-country world. In this more general setting, both the output risk of rare disasters and the associated risk of a default on Government debt, can be diversified. The extent to which agents in one country can diversify away the risk of extreme events depends on the relative size of the two countries, and critically on the probability of a disaster in one country conditional on a disaster in the other. We show that, using Barro's own calibration in combination with a broad range of plausible values for the additional parameters, the model implies levels of the equity risk premium far lower than those typically observed in the data. We conclude that the model is unlikely to explain the equity risk premium |
| Keywords: | equity risk premium; default risk; international diversification |
| JEL: | F3 G1 |
| Date: | 2007–03 |
| URL: | http://d.repec.org/n?u=RePEc:cdf:wpaper:2007/6&r=upt |