nep-upt New Economics Papers
on Utility Models and Prospect Theory
Issue of 2008‒07‒14
nine papers chosen by
Alexander Harin
Modern University for the Humanities

  1. A general theory of time discounting: The reference-time theory of intertemporal choice By Ali al-Nowaihi; Sanjit Dhami
  2. Risk Aversion and Sorting into Public Sector Employment By Pfeifer, Christian
  3. Speculative growth and overreaction to technology shocks By Kevin J. Lansing
  4. Conformity in search markets By Ingmar Nyman; Matthew Baker
  5. A Note on Risk Aversion and Labour Market Outcomes: Further Evidence from German Survey Data By Pfeifer, Christian
  6. Innovation and Information Acquisition Under Time Inconsistency and Uncertainty By Sophie Chemarin; Caroline Orset
  7. A Monte Carlo Study of the Necessary and Sufficient Conditions for Weak Separability By Hjertstrand, Per
  8. A Comment on Ellsberg's two-color experiment, portfolio inertia and ambiguity By Youichiro Higashi; Sujoy Mukerji; Norio Takeoka; Jean-Marc Tallon
  9. The Impact of Risk Attitudes on Entrepreneurial Survival By Caliendo, Marco; Fossen, Frank M.; Kritikos, Alexander S.

  1. By: Ali al-Nowaihi; Sanjit Dhami
    Abstract: We develop a general theory of intertemporal choice: the reference-time theory, RT. RT is a synthesis of ideas from the generalized hyperbolic model (Loewenstein and Prelec 1992), the quasi-hyperbolic model (Phelps and Pollak 1968, Laibson 1997) and subadditivity of time discounting (Roelofsma and Read 2000, Read 2001 and Scholten and Read 2006a). These models are extended to allow for (i) reference points for time and wealth, and (ii) different discount functions for gains and losses. RT is able to account for all the 6 main anomalies of time discounting: gain-loss asymmetry, magnitude effect, common difference effect, delay-speedup asymmetry, apparent intransitivity of time preferences, and non-additivity of time discounting. We provide a class of utility functions compatible with RT. We show how RT can be extended to incorporate uncertainty and attribute models of intertemporal choice.
    Keywords: Anomalies of the discounted utility model; Hyperbolic discounting; Prospect theory; gamma-delay; alpha-subadditivity; SIE value functions
    JEL: C60 D91
    Date: 2008–07
  2. By: Pfeifer, Christian (University of Hannover)
    Abstract: This research note uses two German data sets – the large-scale German Socio-Economic Panel and unique data from own student questionnaires – to analyse the relationship between risk aversion and the choice for public sector employment. Main results are: (1) more risk averse individuals sort into public sector employment, (2) the impact of career specific and unemployment risk attitudes is larger than the impact of general risk attitudes, and (3) risk taking is rewarded with higher wages in the private but not in the public sector.
    Keywords: public sector, risk aversion, sorting, wage differentials
    JEL: J24 J31 J45
    Date: 2008–05
  3. By: Kevin J. Lansing
    Abstract: This paper develops a stochastic endogenous growth model that exhibits “excess volatility” of equity prices because speculative agents overreact to observed technology shocks. When making forecasts about the future, speculative agents behave like rational agents with very low risk aversion. The speculative forecast rule alters the dynamics of the model in a way that tends to confirm the stronger technology response. For moderate levels of risk aversion, the forecast errors observed by the speculative agent are close to white noise, making it difficult for the agent to detect a misspecification of the forecast rule. In model simulations, I show that this type of behavior gives rise to intermittent asset price bubbles that coincide with improvements in technology, investment and consumption booms, and faster trend growth, reminiscent of the U.S. economy during the late 1920s and late 1990s. The model can also generate prolonged periods where the price-dividend ratio remains in the vicinity of the fundamental value. The welfare cost of speculation (relative to rational behavior) depends crucially on parameter values. Speculation can improve welfare if actual risk aversion is low and agents underinvest relative to the socially-optimal level. But for higher levels of risk aversion, the welfare cost of speculation is large, typically exceeding one percent of per-period consumption.
    Keywords: Asset pricing ; Technology
    Date: 2008
  4. By: Ingmar Nyman (Hunter College); Matthew Baker (Hunter College)
    Abstract: We study how private information is used in a search market with non-transferable utility. We show that competitive pressure can turn privately informed agents into "yes men" who, against their own better judgement, mimic behavior that prior information suggests is more valuable. This is more likely to happen when prior, public information is strong relative to private information. The result is not enough frictional unemployment and search, and too much employment in activities favored by prior information. Moreover, the "yes-man" incentive grows stronger when private information is more persistent: we are more likely to lie about what we are than about what we know.
    Keywords: Search; Non-Transferable Utility; Conformity; Yes Men
    JEL: D82 D83 J64
    Date: 2008
  5. By: Pfeifer, Christian (University of Hannover)
    Abstract: Using the large-scale German Socio-Economic Panel, this note reports direct empirical evidence for significant correlations between risk aversion and labour market outcomes (full-time employment, temporary agency work, fixed-term contracts, employer change, quits, training, wages, and job satisfaction).
    Keywords: employment, job search, human capital, risk aversion, wages
    JEL: J01 J24 J64
    Date: 2008–05
  6. By: Sophie Chemarin; Caroline Orset
    Abstract: We propose to analyse the hyperbolic discounting preferences effect on the innovator's research investment decision. Investing in research allows him to acquire information, and then to reduce the uncertainty of the risks of his project. We find that whatever the innovator's preferences, that is hyperbolic or time-consistent, there exists a research investment constraint that limits the information acquisition. However, even if the information is free, while a time-consistent agent always acquires information, a hyperbolic agent may prefer staying ignorant. We also emphasize that hyperbolic discounting preferences induce and information precision constraint that leads the hyperbolic innovator to ignore the information whilethe time-consistent innovator gets it. Moreover, the possibility that the agent has a commitment power in the future strengthens this ignorance strategy. Finally, we investigate the impact of existing liability rules on the innovator's decision to acquire information.
    Keywords: Innovation, information acquisition, uncertainty, self-control, time inconsistency, liability rules
    JEL: D81 D83 D92
    Date: 2008
  7. By: Hjertstrand, Per (Department of Economics, Lund University)
    Abstract: Weak separability plays an important role in many different fields in economic theory. In this paper we investigate the properties of newly developed nonparametric revealed preference tests for weak separability by means of Monte Carlo experiments. A main finding is that the size properties of the tests for weak separability proposed by Swofford and Whitney (A revealed preference test for weakly separable utility maximization with incomplete adjustment. Journal of Econometrics 60, 235-249, 1994) and Fleissig and Whitney (A New PC-Based Test for Varian's Weak Separability Conditions, Journal of Business and Economic Statistics 21, 133-143, 2003) are good in many of the settings considered. As a further source of information, we also perform sensitivity analysis on the nonparametric revealed preference tests when measurement errors are added to the data.
    Keywords: GARP; LP test; Monte Carlo simulations; NONPAR; Weak separability.
    JEL: C14 C15 C43
    Date: 2008–01–14
  8. By: Youichiro Higashi (Department of economics - University of Rochester); Sujoy Mukerji (Oxford University - University of Oxford); Norio Takeoka (Department of economics - University of Rochester); Jean-Marc Tallon (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: The final step in the proof of Proposition 1 (p.311) of Mukerji and Tallon (2003) may not hold in general<br />because $\varepsilon>0$ in the proof cannot be chosen independently of $w,z$. We point out by a counterexample that the axioms they impose are too weak for Proposition 1. We introduce a modified set of axioms and re-establish the<br />proposition
    Keywords: ambiguity;bid ask spread;Ellsberg paradox
    Date: 2008
  9. By: Caliendo, Marco (IZA); Fossen, Frank M. (DIW Berlin); Kritikos, Alexander S. (Hanseatic University Rostock)
    Abstract: Risk attitudes have an impact on not only the decision to become an entrepreneur but also the survival and failure rates of entrepreneurs. Whereas recent research underpins the theoretical proposition of a positive correlation between risk attitudes and the decision to become an entrepreneur, the effects on survival are not as straightforward. Psychological research posits an inverse U-shaped relationship between risk attitudes and entrepreneurial survival. On the basis of recent waves of the German Socio-Economic Panel (SOEP), we examine the extent to which risk attitudes influence survival rates of entrepreneurs. The empirical results confirm that persons whose risk attitudes are in the medium range survive significantly longer as entrepreneurs than do persons with particularly low or high risks.
    Keywords: entrepreneurship, risk attitudes, survival and failure
    JEL: D81 J23 M13
    Date: 2008–06

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