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on Utility Models and Prospect Theory |
| By: | John Donaldson; Rajnish Mehra |
| Abstract: | This essay reviews the family of models that seek to provide aggregate risk based explanations for the empirically observed equity premium. Theories based on non-expected utility preference structures, limited financial market participation, model uncertainty and the small probability of enormous losses are detailed. We impose the additional requirements that candidate models yield consistent inter temporal portfolio choice and that a representative agent can be constructed which is independent of the underlying heterogeneous economy's initial wealth distribution. While many models are able to replicate a wide variety of financial statistics including the premium, few satisfy these latter criteria as well. |
| JEL: | D10 D11 D50 D52 D90 D91 E30 G00 G11 G12 |
| Date: | 2007–07 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:13220&r=upt |
| By: | Levy, Amnon (University of Wollongong) |
| Abstract: | This paper explores a possible effect of social capital on the relationship between utility and wealth. Material status sensitivity is considered in constructing the individual social-capital index. The incorporation of the index into the individualâÃÂÃÂs utility function leads to the proposition that if utility is directly increased by wealth but indirectly reduced by diminishing intensity and quality of sincere social interaction as the material-status-gape widens, there exists an inverted U-shaped relationship between utility and wealth. People located in the lower and upper tails of the wealth distribution are less content and hence more vulnerable to depression. |
| Date: | 2006 |
| URL: | http://d.repec.org/n?u=RePEc:uow:depec1:wp06-27&r=upt |
| By: | Arkes, Hal; Hirshleifer, David; Danling, Jiang; Sonya, Lim |
| Abstract: | We examined prospect theory and reference point adaptation following gains or losses using participants from China, Korea, and the US. Supporting prospect theory, we found in Studies 1 and 2 that subjects from all three countries generally exhibited loss aversion and a greater propensity for risk seeking in the loss domain than in the gain domain. In Study 3 we used the Becker, DeGroot, and Marschak (1964) procedure to ascertain the valuation subjects placed on a gamble after either a prior gain or a prior loss on a stock. After inferring the shift in each subjectâÃÂÃÂs reference point following this prior gain or loss, we found that reference point adaptation following a gain exceeded that following a loss in all three countries. In our third study we also had subjects sell and then immediately repurchase a stock that had experienced a prior gain or loss, which was designed to âÃÂÃÂpunctuateâÃÂàor close the mental account containing the prior gain or loss. This manipulation caused an increase in reference point adaptation among the Americans but a decrease among the Asians. |
| Keywords: | prospect theory; cross-cultural differences; reference point adaptation; mental accounting |
| JEL: | D81 G11 |
| Date: | 2007–07–09 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:4009&r=upt |
| By: | Ville, Simon (University of Wollongong) |
| Abstract: | The equity risk premium puzzle has received regular attention by economists since it was first invoked by Mehra and Prescott (1985) twenty years ago. In a recent paper, they revisit the question and reject many of the explanations offered but we are left with no clear alternative account. The current paper seeks to do two things. We provide matching historical evidence of the equity premium for Australia and compare the results for the two nations. Resulting from this, we argue that a closer understanding of phases of economic history helps to explain the puzzle. |
| JEL: | G12 N2 |
| Date: | 2006 |
| URL: | http://d.repec.org/n?u=RePEc:uow:depec1:wp06-25&r=upt |
| By: | Hardy-Vallee, Benoit |
| Abstract: | This article introduces and discusses from a philosophical point of view the nascent field of neuroeconomics, which is the study of neural mechanisms involved in decision-making and their economic significance. Following a survey of the ways in which decision-making is usually construed in philosophy, economics and psychology, I review many important findings in neuroeconomics to show that they suggest a revised picture of decision-making and ourselves as choosing agents. Finally, I outline a neuroeconomic account of irrationality. |
| Keywords: | neuroeconomics; decision-making; rationality; ultimatum; philosophy; psychology |
| JEL: | B50 D01 |
| Date: | 2007–07 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:4010&r=upt |