nep-upt New Economics Papers
on Utility Models and Prospect Theory
Issue of 2009‒05‒30
four papers chosen by
Alexander Harin
Modern University for the Humanities

  1. Risk Aversion, Intertemporal Substitution, and the Term Structure of Interest Rates By René Garcia; Richard Luger
  2. Group Versus Individual Decision-Making: Is there a shift? By Attila Ambrus; Ben Greiner; Parag Pathak
  3. Market risk premium used in 2008: A survey of more than a 1,000 professors By Fernandez, Pablo
  4. Optimal Inattention to the Stock Market with Information Costs and Transactions Costs By Andrew B. Abel; Janice C. Eberly; Stavros Panageas

  1. By: René Garcia; Richard Luger
    Abstract: We build and estimate an equilibrium model of the term structure of interest rates based on a recursive utility specification. We contrast it with an arbitrage-free model, where prices of risk are estimated freely without preference constraints. In both models, nominal bond yields are affine functions of macroeconomic state variables. The equilibrium model accounts for the tent-shaped pattern and magnitude of coefficients from predictive regressions of excess bond returns on forward rates and the hump-shaped pattern in the term structure of volatilities, while the reduced-form no-arbitrage model does not account for these important features of the yield curve. <P>Nous construisons et évaluons un modèle d’équilibre de la structure par terme des taux d’intérêt, fondé sur une caractéristique de la fonction d’utilité récursive. Nous le comparons à un modèle caractérisé par l’absence d’arbitrage, dans lequel les prix du risque sont estimés librement sans contrainte de préférence. Dans les deux modèles, les rendements des obligations nominales sont des fonctions affines des variables d’état macroéconomique. Le modèle d’équilibre prend en compte le profil en forme de tente (tent-shaped) et l’ampleur des coefficients de régression prédictive relatifs aux rendements des obligations excédant les taux d’intérêt à terme, de même que le profil en forme de bosse (hump-shaped) dans la structure par terme des volatilités, tandis que le modèle à forme réduite et caractérisé par l’absence d’arbitrage ne tient pas compte de ces caractéristiques importantes de la courbe de rendement.
    Keywords: Recursive utility, Yield curve, Affine macro-finance model, Bond risk premium, Expectations puzzle, Utilité récursive, courbe de rendement, modèle macrofinancier affine, prime de risque liée aux obligations, perplexité des attentes
    JEL: E43 E44 G12
    Date: 2009–05–01
  2. By: Attila Ambrus (Department of Economics, Harvard University); Ben Greiner (School of Economics, University of New South Wales); Parag Pathak (Department of Economics, MIT)
    Abstract: We revisit the phenomenon that group decisions differ systematically from decisions of individuals. Our experiment solicits individual and group decisions from the same subjects in two settings, gift-exchange games and lottery choices. With no deliberation and voting, the group decision is determined by the median individual decision, without a shift. With deliberation but no imposed decision rule, the individual one po- sition towards the selfish direction also becomes influential. In lottery choices we find no group shift relative to the median. We demonstrate that the standard practice of comparing means of group and individual decisions would incorrectly identify a level shift.
    Keywords: Decision making, lottery, risky choices
    Date: 2009–05
  3. By: Fernandez, Pablo (IESE Business School)
    Abstract: The average Market Risk Premium (MRP) used in 2008 by professors in the United States (6.5%) was higher than the one used by their colleagues in Europe (5.3%), Canada (5.4%), the United Kingdom (5.6%) and Australia (5.9%). The dispersion of the MRP was high. 15% ofthe professors decreased their MRP in 2008 (1.5% on average) and 24% increased it (2% on average). 66% of the professors used a lower MRP in 2007 than in 2000 (22% used a higher one). The average MRP used in 2007 was 1.5% lower than the one used in 2000. Most previous surveys were interested in the Expected MRP, but this survey asks about the Required MRP. The paper also contains the references that professors use to justify their MRP and comments from 180 professors that illustrate the variety of interpretations of what the required MRP is and explain the confusion of students and practitioners about its concept and magnitude.
    Keywords: equity premium puzzle; required equity premium; expected equity premium; historical equity premium;
    JEL: G12 G31 M21
    Date: 2009–03–03
  4. By: Andrew B. Abel; Janice C. Eberly; Stavros Panageas
    Abstract: Recurrent intervals of inattention to the stock market are optimal if consumers incur a utility cost to observe asset values. When consumers observe the value of their wealth, they decide whether to transfer funds between a transactions account from which consumption must be financed and an investment portfolio of equity and riskless bonds. Transfers of funds are subject to a transactions cost that reduces wealth and consists of two components: one is proportional to the amount of assets transferred, and the other is a fixed resource cost. Because it is costly to transfer funds, the consumer may choose not to transfer any funds on a particular observation date. In general, the optimal adjustment rule---including the size and direction of transfers, and the time of the next observation---is state-dependent. Surprisingly, unless the fixed resource cost of transferring funds is large, the consumer's optimal behavior eventually evolves to a situation with a purely time-dependent rule with a constant interval of time between observations. This interval of time can be substantial even for tiny observation costs. When this situation is attained, the standard consumption Euler equation holds between observation dates if the consumer is sufficiently risk averse.
    JEL: E21 G11
    Date: 2009–05

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