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on Utility Models and Prospect Theory |
| By: | Itzhak Gilboa; Fabio Maccheroni; Massimo Marinacci; David Schmeidler |
| Date: | 2008–03–05 |
| URL: | http://d.repec.org/n?u=RePEc:cla:levrem:122247000000001950&r=upt |
| By: | Andreas Glöckner (Max Planck Institute for Research on Collective Goods, Bonn); Tilmann Betsch (University of Erfurt) |
| Abstract: | Brandstätter, Gigerenzer and Hertwig (2006) put forward the priority heuristic (PH) as a fast and frugal heuristic for decisions under risk. According to the PH, individuals do not make trade-offs between gains and probabilities, as proposed by expected utility models such as cumulative prospect theory (CPT), but use information in a non-compensatory manner and ignore information. We conducted three studies to test the PH empirically by analyzing individual choice patterns, decision times and information search parameters in diagnostic decision tasks. Results on all three dependent variables conflict with the predictions of the PH and can be better explained by the CPT. The predictive accuracy of the PH was high for decision tasks in which the predic-tions align with the predictions of the CPT but very low for decision tasks in which this was not the case. The findings indicate that earlier results supporting the PH might have been caused by the selection of decision tasks that were not diagnostic for the PH as compared to CPT. |
| Keywords: | Decision Strategy, Fast and Frugal Heuristics, Bounded Rationality, Decision Latency, Process Tracing, Cumulative Prospect Theory |
| Date: | 2008–02 |
| URL: | http://d.repec.org/n?u=RePEc:mpg:wpaper:2008_5&r=upt |
| By: | Huhtala, Heli (Bank of Finland Research) |
| Abstract: | It is well known that under certain assumptions the strategy of an investor maximizing his expected utility coincides with the mean-variance optimal strategy. In this paper we show that the two strategies are not equal in general and find the connection between a utility maximizing and a mean-variance optimal strategy in a continuous semimartingale model. That is done by showing that the utility maximizing strategy of a CARA investor can be expressed in terms of expectation and the expected quadratic variation of the underlying price process. It coincides with the mean-variance optimal strategy if the underlying price process is a local martingale. |
| Keywords: | mean-variance portfolios; utility maximization; dynamic portfolio selection; quadratic variation |
| JEL: | C61 G11 |
| Date: | 2008–03–11 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:bofrdp:2008_005&r=upt |
| By: | Itzhak Gilboa; Andrew Postlewaite; David Schmeidler |
| Date: | 2008–03–05 |
| URL: | http://d.repec.org/n?u=RePEc:cla:levrem:122247000000001976&r=upt |
| By: | Mandler, Michael (Royal Holloway, University of London); Manzini, Paola (University of London); Mariotti, Marco (Queen Mary, University of London) |
| Abstract: | Many decision models in marketing science and psychology assume that a consumer chooses by proceeding sequentially through a checklist of desirable properties. These models are contrasted to the utility maximization model of rationality in economics. We show on the contrary that the two approaches are nearly equivalent. Moreover, the length of the shortest checklist as a proportion of the number of an agent’s indifference classes shrinks to 0 (at an exponential rate) as the number of indifference classes increases. Checklists therefore provide a rapid procedural basis for utility maximization. |
| Keywords: | utility maximization, procedural rationality, bounded rationality, choice behavior |
| JEL: | D01 |
| Date: | 2008–02 |
| URL: | http://d.repec.org/n?u=RePEc:iza:izadps:dp3377&r=upt |
| By: | Goerke, Laszlo (University of Tuebingen); Pannenberg, Markus (Bielefeld University of Applied Sciences) |
| Abstract: | In an open-shop model of trade union membership with heterogeneity in risk attitudes, a worker's relative risk aversion can affect the decision to join a trade union. Furthermore, a shift in risk attitudes can alter collective bargaining outcomes. Using German panel data (GSOEP) and three novel direct measures of individual risk aversion, we find evidence of a significantly positive relationship between risk aversion and the likelihood of union membership. Additionally, we observe a negative correlation between bargained wages in aggregate and average risk preferences of union members. Our results suggest that an overall increase in risk aversion contributes to wage moderation and promotes employment. |
| Keywords: | employment, membership, risk aversion, trade union |
| JEL: | J51 |
| Date: | 2008–02 |
| URL: | http://d.repec.org/n?u=RePEc:iza:izadps:dp3351&r=upt |
| By: | Oswald, Andrew J. (University of Warwick) |
| Abstract: | I suggest the idea of a reporting function, r(.), from reality to feelings. The ‘happiness’ literature claims we have demonstrated diminishing marginal utility of income. I show not, and that knowing r(.)’s curvature is crucial. A quasi-experiment on heights is studied. |
| Keywords: | money, diminishing marginal utility, height, concavity |
| JEL: | I3 D1 |
| Date: | 2008–02 |
| URL: | http://d.repec.org/n?u=RePEc:iza:izadps:dp3344&r=upt |
| By: | Hannah Hörisch (University of Munich, Seminar for Economic Theory, Ludwigstraße 28 (Rgb.), 80539 Munich, Germany, email: hannah.hoerisch@lrz.uni-muenchen.de.) |
| Abstract: | We implement the Rawlsian veil of ignorance in the laboratory. Our experimental design allows separating the effects of risk and social preferences behind the veil of ignorance. Subjects prefer more equal distributions behind than in front of the veil of ignorance, but only a minority acts according to maximin preferences. Men prefer more equal allocations mostly for insurance purposes, women also due to social preferences for equality. Our results contrast the Utilitarian's claim that behind the veil of ignorance maximin preferences necessarily imply infinite risk aversion. They are compatible with any degree of risk aversion as long as social preferences for equality are sufficiently strong. |
| Keywords: | deterrence, law and economics, incentives, crowding out, experiment |
| JEL: | D64 C99 D63 |
| Date: | 2008–02 |
| URL: | http://d.repec.org/n?u=RePEc:trf:wpaper:229&r=upt |
| By: | Grund, Christian (University of Würzburg); Przemeck, Judith (University of Bonn) |
| Abstract: | Many firms use subjective performance appraisal systems due to lack of objective performance measures. In these cases, supervisors usually have to rate the performance of their subordinates. Using such systems, it is a well established fact that many supervisors tend to assess the employees too good (leniency bias) and that the appraisals hardly vary across employees of a certain supervisor (centrality bias). We explain these two biases in a model with a supervisor, who has preferences for the utility of her inequality averse subordinates, and discuss determinants of the size of the biases. Extensions of the basic model include the role of supervisor’s favoritism of one particular agent and the endogenous effort choice of agents. Whether inequality averse agents exert higher efforts then purely self-oriented ones, depends on the size of effort costs and inequality aversion. |
| Keywords: | appraisals, inequality aversion, performance evaluation, centrality bias, leniency bias |
| JEL: | M5 D63 |
| Date: | 2008–03 |
| URL: | http://d.repec.org/n?u=RePEc:iza:izadps:dp3382&r=upt |
| By: | Guido Cozzi; Paolo E. Giordani |
| Abstract: | The process aimed at discovering new ideas is an economic activity whose returns are intrinsically uncertain. In a standard neo-Schumpeterian growth framework we assume that, when deciding upon R&D efforts, economic agents hold ‘ambiguous beliefs’ about the exact probability of arrival of the next vertical innovations, and face ambiguity via the α-MEU decision rule (Ghirardato et al. (2004)). Along the steady-state equilibrium the higher the agents’ ambiguity aversion (α), the lower the R&D efforts and, coeteris paribus, the overall economic performance. Consistently with a cross-country empirical evidence, this causal mechanism suggests that, together with the profitability conditions of the economy, different ‘cultural’ attitudes towards ambiguity may contribute to explain the different R&D intensities observed across countries. |
| Keywords: | Schumpeterian growth, ambiguity, cultural attitude towards Ambiguity, arrival rate of innovation, R&D investments. |
| JEL: | D81 Z1 |
| URL: | http://d.repec.org/n?u=RePEc:gla:glaewp:2008_06&r=upt |
| By: | von Gaudecker, Hans-Martin (Free University of Amsterdam); van Soest, Arthur (Tilburg University); Wengström, Erik (University of Copenhagen) |
| Abstract: | We combine data from a risk preference elicitation experiment conducted on a representative sample via the Internet with laboratory data on students for the same experiment to investigate effects of implementation mode and of subject pool selection. We find that the frequency of errors in the lab experiment is drastically below that of the representative sample in the Internet experiment, and average risk aversion is also lower. Considering the student-like subsample of the Internet subjects and comparing a traditional lab design with an Internet-like design in the lab gives two ways to decompose these differences into differences due to subject pool selection and differences due to implementation mode. Both lead to the conclusion that the differences are due to selection and not implementation mode. An analysis of the various steps leading to participation or non-participation in the Internet survey leads shows that these processes are selective in selecting subjects who make fewer errors, but do not lead to biased conclusions on risk preferences. These findings point at the usefulness of the Internet survey as an alternative to a student pool in the laboratory if the ambition is to use the experiments to draw inference on a broad population. |
| Keywords: | risk aversion, internet surveys, laboratory experiments |
| JEL: | C90 D81 |
| Date: | 2008–01 |
| URL: | http://d.repec.org/n?u=RePEc:iza:izadps:dp3321&r=upt |
| By: | Kumru, Cagri; Yektas, Hadi |
| Abstract: | We analyze the optimal auction of multiple non-identical objects when buyers are risk averse. We show that the auction formats that yield the maximum revenue in the risk neutral case are no longer optimal. In particular, selling the goods independently does not maximize the seller's revenue. We observe that seller's incentive for bundling arises solely due to the risk aversion of the buyers. The optimal auction which remains weakly efficient has the following properties: The seller perfectly insures all buyers against the risk of losing the object(s) for which they have high valuation. While the buyers who have high valuation for both objects are compensated if they do not win either object, the buyers who have low valuation for both objects incur a positive payment to the seller in the same event. |
| Keywords: | Multi-object Auctions; Optimal Auctions; Multi-dimensional Screening; Risk Averse Buyers; Bundling |
| JEL: | D81 D44 |
| Date: | 2008–03–09 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:7575&r=upt |
| By: | John-John, D’ARGENSIO (UNIVERSITE CATHOLIQUE DE LOUVAIN, Center for Operations Research and Econometrics (CORE)); Frederic, LAURIN (UNIVERSITE CATHOLIQUE DE LOUVAIN, Center for Operations Research and Econometrics (CORE)) |
| Abstract: | The objective of this paper is to identify the determinants of office capitalization rates for a panel of 52 countries (developed and emerging countries) between 2000 and 2006. Our assumption, based on Capital Asset Pricing Model, is that the capitalization rate should be at least proportional to the country’s risk perception, as measured by the risk premium on the 10-year government bond yield. Because of the endogeneity of the latter variable, our empirical methodology requires that we estimate first a model explaining the 10-year bond yield. It will be the occasion to discuss the determinants of the risk premium on the bond market. Using a SURE random effect Hausman-Taylor estimator (Hausman & Taylor, 1981), w also take into account the possible correlation between the country risk characteristics on the bond markets and those that determine the real estate market. Our results show that government bond yield is the main determinant of the capitalization rate. We estimate that 1 percentage point increase in the government bond yield will raisse the capitalization rate by about 0.19 percentage point. Real estate variables play also a role, but to a lesser extent. Turning to determinants of the 10-year bond yield, macroeconomic fundamentals are significant determinants of the country risk premium, especially the capacity to honor short-term financial engagements. In addition, the country’s risk history has also very important effect on the investors’ current risk perception. |
| JEL: | R33 G12 C33 G15 |
| Date: | 2008–02–15 |
| URL: | http://d.repec.org/n?u=RePEc:ctl:louvec:2008003&r=upt |
| By: | Julio Davila (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Panthéon-Sorbonne - Paris I, Ecole d'économie de Paris - Paris School of Economics - Université Panthéon-Sorbonne - Paris I) |
| Abstract: | I establish, in simple deterministic overlapping generations economies, that if each agent holds rationally formed expectations in the sense that any other expectations justifying his choices imply a smaller likelihood for the history he observes with limited memory, then there are rationally formed expectations equilibria exhibiting an excess volatility that no rational expectations equilibrium can match. Given that the limited records or finite memory case may arguably be the relevant one from a positive viewpoint, this result suggests that the possibility of excess volatility as an equilibrium phenomenon has been downplayed by the use of the rational expectations hypothesis. |
| Keywords: | Expectations, rationality, volatility. |
| Date: | 2008–02 |
| URL: | http://d.repec.org/n?u=RePEc:hal:papers:halshs-00261582_v1&r=upt |