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on Utility Models and Prospect Theory |
| By: | Robin Cubitt (School of Economics, University of Nottingham); Robert Sugden (School of Economics, University of East Anglia) |
| Abstract: | The game-theoretic assumption of ‘common knowledge of rationality’ leads to paradoxes when rationality is represented in a Bayesian framework as cautious expected utility maximisation with independent beliefs (ICEU). We diagnose and resolve these paradoxes by presenting a new class of formal models of players’ reasoning, inspired by David Lewis’s account of common knowledge, in which the analogue of common knowledge is derivability in common reason. We show that such models can consistently incorporate any of a wide range of standards of decision-theoretic practical rationality. We investigate the implications arising when the standard of decision-theoretic rationality so assumed is ICEU. |
| Keywords: | Common reasoning; common knowledge; common knowledge of rationality; David Lewis; Bayesian models of games |
| Date: | 2011–01 |
| URL: | http://d.repec.org/n?u=RePEc:cdx:dpaper:2011-01&r=upt |
| By: | Dirk Bergemann (Cowles Foundation, Yale University); Stephen Morris (Dept. of Economics, Princeton University); Satoru Takahashi (Dept. of Economics, Princeton University) |
| Abstract: | A universal type space of interdependent expected utility preference types is constructed from higher-order preference hierarchies describing (i) an agent's (unconditional) preferences over a lottery space; (ii) the agent's preference over Anscombe-Aumann acts conditional on the unconditional preferences; and so on. Two types are said to be strategically indistinguishable if they have an equilibrium action in common in any mechanism that they play. We show that two types are strategically indistinguishable if and only if they have the same preference hierarchy. We examine how this result extends to alternative solution concepts and strategic relations between types. |
| Keywords: | Interdependent preferences, Higher-order preference hierarchy, Universal type space, Strategic distinguishability |
| JEL: | C79 D82 D83 |
| Date: | 2010–09 |
| URL: | http://d.repec.org/n?u=RePEc:cwl:cwldpp:1772r&r=upt |
| By: | Traian A Pirvu; Huayue Zhang |
| Abstract: | This paper considers the optimal portfolio selection problem in a dynamic multi-period stochastic framework with regime switching. The risk preferences are of exponential (CARA) type with an absolute coefficient of risk aversion which changes with the regime. The market model is incomplete and there are two risky assets: one tradable and one non-tradable. In this context, the optimal investment strategies are time inconsistent. Consequently, the subgame perfect equilibrium strategies are considered. The utility indifference prices of a contingent claim written on the risky assets are computed via an indifference valuation algorithm. By running numerical experiments, we examine how these prices vary in response to changes in model parameters. |
| Date: | 2011–02 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1102.5075&r=upt |
| By: | Brice Corgnet (Business Department, Universidad de Navarra); Praveen Kujal (Department of Economics, Universidad Carlos III de Madrid); David Porter (Economic Science Institute, Chapman University) |
| Abstract: | In real world situations the fundamental value of an asset is ambiguous. Recent theory has incorporated ambiguity in the dividend process and the information observed by investors, and studied its effect on asset prices. In this paper we experimentally study trader reaction to ambiguity when dividend information is revealed sequentially. Price changes are consistent with news revelation regarding the dividend regardless of subject experience and the degree of ambiguity. Further, there is no under or over price reactions to news. Regardless of experience, market reaction to news moves in line with fundamentals. Also, no significant differences are observed in the control versus ambiguity treatments regarding prices, price volatility and volumes for experienced subjects. Our results indicate that the role of ambiguity aversion in explaining financial anomalies is limited. |
| Keywords: | Ambiguity, Dividend Revelation, Price Changes, Reaction to News, Experience |
| JEL: | G10 G12 |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:chu:wpaper:11-01&r=upt |
| By: | Jan-Erik Lönnqvist (Faculty of Behavioural Sciences, University of Helsinki, Finland); Markku Verkasalo (Faculty of Behavioural Sciences, University of Helsinki, Finland); Gari Walkowitz (Department of Management, University of Cologne, Germany); Philipp C. Wichardt (Institute of Economic Theory 3, University of Bonn, Germany) |
| Abstract: | This paper compares two prominent empirical measures of individual risk attitudes - the Holt and Laury (2002) lottery-choice task and the multi-item questionnaire advocated by Dohmen, Falk, Huffman, Schupp, Sunde and Wagner (forthcoming) - with respect to (a) their within-subject stability over time (one year) and (b) their correlation with actual risk-taking behaviour in the lab - here the amount sent in a trust game (Berg, Dickaut, McCabe, 1995). As it turns out, the measures themselves are uncorrelated (both times) and, most importantly, only the questionnaire measure exhibits test-re-test stability (Ï = .78), while virtually no such stability is found in the lottery-choice task. In addition, only the questionnaire measure shows the expected correlations with a Big Five personality measure and is correlated with actual risk-taking behaviour. The results suggest that the questionnaire measure is a better measure of individual risk attitudes than the lottery-choice task. Moreover, with respect to trust, the high re-test stability of trust transfers (Ï = .70) further supports the conjecture that trusting behaviour indeed has a component which itself is a stable individual characteristic (Glaeser, Laibson, Scheinkman and Soutter, 2000). |
| Keywords: | Risk Attitudes, Trust, Personality, Lab Experiments |
| JEL: | D81 C91 Z10 |
| Date: | 2011–02–18 |
| URL: | http://d.repec.org/n?u=RePEc:cgr:cgsser:02-03&r=upt |
| By: | Steven J. Humphrey (Fachbereich Wirtschaftwissenschaften, Universitaet Osnabrueck); Elke Renner (School of Economics, University of Nottingham) |
| Abstract: | We use an experimental lottery choice task and public goods game to examine if responsibility for the financial welfare of others affects decisionmaking behaviour in two different types of decision environments. We find no evidence that responsibility affects individual risk preferences. Responsibility does, however, crowd-out cooperation in a public goods game. |
| Keywords: | responsibility, risk attitudes, social preferences, public goods game |
| JEL: | C72 C91 D74 H41 |
| Date: | 2011–02 |
| URL: | http://d.repec.org/n?u=RePEc:cdx:dpaper:2011-02&r=upt |
| By: | Craig Webb; Horst Zank |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:man:sespap:1111&r=upt |
| By: | Stergios Athanassoglou (Fondazione Eni Enrico Mattei and Euro-Mediterranean Center for Climate Change) |
| Abstract: | Consider a collection of m indivisible objects to be allocated to n agents, where m = n. Each agent falls in one of two distinct categories: either he (a) has a complete ordinal ranking over the set of individual objects, or (b) has a set of “plausible” benchmark von Neumann-Morgenstern (vNM) utility functions in whose non-negative span his “true” utility is known to lie. An allocation is undominated if there does not exist a preference-compatible profile of vNM utilities at which it is Pareto dominated by another feasible allocation. Given an undominated allocation, we use the tools of linear duality theory to construct a profile of vNM utilities at which it is ex-ante welfare maximizing. A finite set of preference-compatible vNM utility profiles is exhibited such that every undominated allocation is ex-ante welfare maximizing with respect to at least one of them. Given an arbitrary allocation, we provide an interpretation of the constructed vNM utilities as subgradients of a function which measures worst-case domination. |
| Keywords: | Random Assignment, Efficiency, Duality, Linear Programming |
| JEL: | C61 D01 D60 |
| Date: | 2011–02 |
| URL: | http://d.repec.org/n?u=RePEc:fem:femwpa:2011.11&r=upt |
| By: | Lobb, Alexandra E. |
| Abstract: | A lack of awareness and understanding of risk and uncertainty can lead to poor decision making and higher costs for policy providers, as not accounting for them may produce policy which is inflexible and with a negative effect on welfare. Further, misunderstanding of and/or failure to account for risk and uncertainty can inhibit research and development for policy to which environmental economics can contribute (for example, in developing effective measures of sustainability). The aim of this project is to develop guidelines for âBest Practiceâ approaches to risk and uncertainty in environmental economics for guiding policy development and implementation, taking into account key issues such as costs, irreversibility, adaptation and dynamics. These guidelines are developed by examining the frameworks commonly used by environmental economists to account for risk and uncertainty (such as the Precautionary Principle and Cost Benefit Analysis) as well as specifically developed theories (e.g. Quigginâs Rank Dependent Utility Theory), borrowing from other disciplines (e.g. Prospect Theory) and drawing attention to lesser known ideas (e.g. Shackleâs Model). |
| Keywords: | Environmental Economics and Policy, |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:ags:aare11:100580&r=upt |
| By: | Leibbrandt, Andreas (Department of Economics, University of Chicago); López-Pérez, Raúl (Departamento de Análisis Económico (Teoría e Historia Económica). Universidad Autónoma de Madrid.) |
| Abstract: | We design experiments to study the extent to which individuals differ in their motivations behind costly punishment and rewarding. Our findings qualify existing evidence and suggest that the largest fraction of players is motivated by a mixture of both inequity-aversion and reciprocity, while smaller fractions are primarily motivated by pure inequity-aversion and pure reciprocity. These findings provide new insights into the literature on other-regarding preferences and may help to reconcile important phenomena reported in the experimental literature on punishment and reward. |
| Keywords: | Heterogeneity; inequity aversion; monetary punishment/reward; reciprocity; social norms. |
| JEL: | C70 C91 D63 D74 Z13 |
| Date: | 2011–01 |
| URL: | http://d.repec.org/n?u=RePEc:uam:wpaper:201101&r=upt |
| By: | Tarbush, Bassel |
| Abstract: | We develop a framework that allows us to emulate standard results from the “agreeing to disagree" literature with generalised decision functions (e.g. Bacharach (1985)) in a manner the avoids known incoherences pointed out by Moses and Nachum (1990). We analyse the implications of the Sure-Thing Principle, a central assumption. The upshot is that the way in which states are described matters, and that the results fail if decisions are allowed to depend on interactive information. Furthermore, using very weak additional assumptions, we extend all previous results to models with a non-partitional information structure in a coherent manner. Finally, we provide agreement theorems in which the decision functions are not required to satisfy the Sure-Thing Principle. |
| Keywords: | Agreeing to disagree; knowledge; common knowledge; belief; information; epistemic logic |
| JEL: | D89 D83 D80 |
| Date: | 2011–02–23 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:29066&r=upt |