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on Utility Models and Prospect Theory |
| By: | Jeffrey V. Butler (EIEF); Luigi Guiso (European University Institute and EIEF); Tullio Jappelli (University of Naples Federico II and CSEF) |
| Abstract: | Using a large sample of retail investors as well as experimental data we find that risk and ambiguity aversion are positively correlated. We show the common link is decision style: intuitive thinkers tolerate more risk and ambiguity than effortful reasoners. One interpretation is that intuitive thinking confers an advantage in risky or ambiguous situations. We present supporting lab and field evidence that intuitive thinkers outperform others in uncertain environments. Finally, we find that risk and ambiguity aversion vary with individual characteristics and wealth. The wealthy are less risk averse but more ambiguity averse, which has implications for financial puzzles. |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:eie:wpaper:1107&r=upt |
| By: | Anna Conte; John D. Hey |
| Abstract: | The recent spate of theoretical models of behaviour under ambiguity can be partitioned into two sets: those involving multiple priors (in which the probabilities of the various events are not known but probabilities can be attached to the various possible values for the probabilities) and those not involving multiple priors. This paper concentrates on the first set and provides an experimental investigation into recently proposed theories. Using an appropriate experimental interface, in which the probabilities on the various possibilities are explicitly stated, we examine the fitted and predictive power of the various theories. We first estimate subject-by-subject, and then we estimateand predict using a mixture model over the contending theories. The individual estimates suggest that 25% of our 149 subjects have behaviour consistent with Expected Utility, 54% with the Smooth Model (of Klibanoff et al, 2005), 12% with Rank Dependent Expected Utility and 9% with the Alpha Model (of Ghirardato et al 2004); these figures are very close to the mixing proportions obtained from the mixture estimates. However, if we classify our subjects through the posterior probabilities (given all the evidence) of each of them being of the various types: using the estimates we get 38%, 19%, 28% and 16% (for EU, Smooth, Rank Dependent and Alpha); while using the predictions 36%, 19%, 33% and 11%. Interestingly the older models (EU and RD) seem to fare relatively better, suggesting that representing ambiguity through multiple priors is perceived by subjects as risk, rather than ambiguity |
| Keywords: | Alpha Model, Ambiguity, Expected Utility, Mixture Models, Rank Dependent Expected Utility, Smooth Model. |
| JEL: | D81 C91 C2 |
| Date: | 2012–01 |
| URL: | http://d.repec.org/n?u=RePEc:yor:yorken:12/01&r=upt |
| By: | Sophie Bade (Max Planck Institute for Research on Collective Goods, Bonn) |
| Abstract: | A robust feature of models of electoral competition between two opportunistic, purely office-motivated parties is that both parties become indistinguishable in equilibrium. I this short note, I show that this strong connection between the office motivation of parties and their equilibrium choice of identical platforms depends on the following two - possibly counterfactual - assumptions: 1. Issue spaces are uni-dimensional and 2. Parties are unitary actors whose preferences can be represented by expected utility functions. The main goal here is to provide an example of a two-party model in which parties offer substantially different platforms in equilibrium even though no exogenous asymmetries are assumed. In this example, some voters’ preferences over the 2-dimensional issue space are assumed to exhibit non-convexities and parties evaluate their actions with respect to a set of beliefs on the electorate. |
| Keywords: | Downs model, Games with Incomplete Preferences, Knightian Uncertainty, Uncertainty Aversion, Platform Divergence |
| JEL: | D81 D72 C79 |
| Date: | 2011–10 |
| URL: | http://d.repec.org/n?u=RePEc:mpg:wpaper:2011_25&r=upt |
| By: | Anton Cheremukhin; Anna Popova; Antonella Tutino |
| Abstract: | We show that rational inattention theory of Sims (2003) provides a rationalization of choice models à la Luce and gives a structural interpretation to probability curvature parameters as reflecting costs of processing information. We use data from a behavioral experiment to show that people behave according to predictions of the theory. We estimate attitudes to risk and costs of information for individual participants and document overwhelming heterogeneity in these parameters among a relatively homogeneous sample of people. We characterize, both theoretically and empirically, the aggregation biases this heterogeneity implies and find these biases to be substantial. |
| Keywords: | Risk management ; Econometrics |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:fip:feddwp:1112&r=upt |
| By: | Satoru Fujishige; Zaifu Yang |
| Abstract: | We consider a market model in which all commodities are inherently indivisible and thus are traded in integer quantities. We ask whether a finite set of price-quantity observations satisfying the Generalized Axiom of Revealed Preference (GARP) is consistent with utility maximization. Although familiar conditions such as non-satiation become meaningless in the current discrete model, by refining the standard notion of demand set we show that Afriat's celebrated theorem still holds true. Exploring network structure and a new and easy-to-use variant of GARP, we propose an elementary, simple, intuitive, combinatorial, and constructive proof for the result. |
| Keywords: | Afriat's theorem, GARP, indivisibilities, revealed preference. |
| JEL: | D11 C60 |
| Date: | 2012–01 |
| URL: | http://d.repec.org/n?u=RePEc:yor:yorken:12/02&r=upt |
| By: | Glenn W. Harrison; Jimmy MartÃnez-Correa; J. Todd Swarthout |
| Abstract: | We evaluate the binary lottery procedure for inducing risk neutral behavior. We strip the experimental implementation down to bare bones, taking care to avoid any potentially confounding assumption about behavior having to be made. In particular, our evaluation does not rely on the assumed validity of any strategic equilibrium behavior, or even the customary independence axiom. We show that subjects sampled from our population are generally risk averse when lotteries are defined over monetary outcomes, and that the binary lottery procedure does indeed induce a statistically significant shift towards risk neutrality. This striking result generalizes to the case in which subjects make several lottery choices and one is selected for payment. |
| Date: | 2012–01 |
| URL: | http://d.repec.org/n?u=RePEc:exc:wpaper:2012-02&r=upt |
| By: | Jona Linde (University of Amsterdam, CREED); Joep Sonnemans (University of Amsterdam, CREED) |
| Abstract: | Social preference models were originally constructed to explain two things: why people spend money to affect the earnings of others and why the income of others influences reported happiness. We test these models in a novel experimental situation where participants face a risky decision that affects only their own earnings. In the social (individual) treatment participants do (not) observe the earnings of others. In the social treatment gambles therefore not only affect absolute but also relative earnings. Outcome-based social preference models therefore predict a treatment difference. We find that decisions are generally the same in both treatments, in line with rule-based social preference models, like procedural fairness. |
| Keywords: | fairness; social preferences; decision making under risk; experiment |
| JEL: | C91 D63 D81 |
| Date: | 2012–01–09 |
| URL: | http://d.repec.org/n?u=RePEc:dgr:uvatin:20120003&r=upt |
| By: | Matteo Del Vigna (Dipartimento di Statistica e Matematica Applicata all'Economia, Universita' di Pisa & Universite' Paris-Dauphine) |
| Abstract: | This note identifies and fixes a minor gap in Proposition 1 in Barberis and Huang (2008). Assuming homogeneous Cumulative Prospect Theory decision makers, we show that CAPM is a necessary (though not sufficient) condition that must hold in equilibrium. We support our result with numerical examples where security prices become negative. |
| Keywords: | asset pricing, capital asset pricing model, cumulative prospect theory. |
| JEL: | C62 D53 G11 G12 |
| Date: | 2012–01 |
| URL: | http://d.repec.org/n?u=RePEc:flo:wpaper:2012-01&r=upt |
| By: | Martin Szydlowski |
| Abstract: | I study a dynamic principal agent model in which the effort cost of the agent is unknown to the principal. The principal is ambiguity averse, and designs a contract which is robust to the worst case effort cost process. Ambiguity divides the contract into two regions. After sufficiently high performance, the agent reaches the over-compensation region, where he receives excessive benefits compared to the contract without ambiguity, while after low performance, he enters the under-compensation region. Ambiguity also causes a disconnect between the current effort cost and the strength of incentives. That is, even when the agent is under-compensated, his incentives are as strong as in the over-compensation region, since the principal fears the agent might shirk otherwise. Under ambiguity, the agent’s true effort cost does not need to equal the worst-case. I analyze the agent’s incentives for this case, and show that the possibility of firing is detrimental to the agent’s incentives. I study several extensions concerning the timing structure and the nature of the principal’s ambiguity aversion. JEL Code: D82, D86, M52 |
| Keywords: | Dynamic contract, principal-agent model, ambiguity aversion, continuous time |
| Date: | 2012–01–16 |
| URL: | http://d.repec.org/n?u=RePEc:nwu:cmsems:1543&r=upt |
| By: | Bissonnette, L. (Tilburg University) |
| Date: | 2012 |
| URL: | http://d.repec.org/n?u=RePEc:ner:tilbur:urn:nbn:nl:ui:12-5242204&r=upt |
| By: | Andrew Chesher (Institute for Fiscal Studies and University College London); Adam Rosen (Institute for Fiscal Studies and University College London); Konrad Smolinski (Institute for Fiscal Studies) |
| Abstract: | <p><p>This paper studies identification of latent utility functions in multiple discrete choice models in which there may be endogenous explanatory variables, that is explanatory variables that are not restricted to be distributed independently of the unobserved determinants of latent utilities. The model does not employ large support, special regressor or control function restrictions, indeed it is silent about the process delivering values of endogenous explanatory variables and in this respect it is incomplete. Instead the model employs instrumental variable restrictions requiring the existence of instrumental variables which are excluded from latent utilities and distributed independently of the unobserved components of utilities.</p> </p><p><p>We show that the model delivers set identification of the latent utility functions and we characterize sharp bounds on those functions. We develop easy-to-compute outer regions which in parametric models require little more calculation than what is involved in a conventional maximum likelihood analysis. The results are illustrated using a model which is essentially the parametric conditional logit model of McFadden (1974) but with potentially endogenous explanatory variables and instrumental variable restrictions. The method employed has wide applicability and for the first time brings instrumental variable methods to bear on structural models in which there are multiple unobservables in a structural equation.</p></p> |
| Date: | 2011–12 |
| URL: | http://d.repec.org/n?u=RePEc:ifs:cemmap:39/11&r=upt |
| By: | Francis Bloch (Department of Economics, Ecole Polytechnique - CNRS : UMR7176 - Polytechnique - X); Unal Zenginobuz (Bogazici Universitesi - {-]) |
| Abstract: | This paper studies how Oates' trade-off between centralized and decentralized public good provision is affected by changes in households' mobility. We show that an increase in household mobility favors centralization, as it increases competition between jurisdictions in the decentralized regime and accelerates migration to the majority jurisdiction in the centralized regime. Our main result is obtained in a baseline model where jurisdictions first choose taxes, and households move in response to taxb levels. We consider two variants of the model. If jurisdictions choose public goods rather than tax rates, the equilibrium level of public good provision is lower, and mobility again favors centralization. If jurisdictions maximize total utility rather than resident utility, the equilibrium level of public good provision again decreases, and mobility favors centralization when the size of the mobile population is bounded. |
| Keywords: | Oates' decentralization theorem, Fiscal federalism, Household mobility, Spillovers, Tax competition |
| Date: | 2012–01–09 |
| URL: | http://d.repec.org/n?u=RePEc:hal:wpaper:hal-00657823&r=upt |
| By: | Rene van den Brink (VU University Amsterdam); Chris Dietz (VU University Amsterdam) |
| Abstract: | A situation in which a finite set of agents can generate certain payoffs by cooperation can be described by a cooperative game with transferable utility (or simply a TU-game) where each agent is represented by one player in the game. In this paper, we assume that one agent can be represented by more than one player. We introduce two solutions for this multi-player agent game model, both being generalizations of the Shapley value for TU-games. The first is the agent-Shapley value and considers the agents in the most unified way in the sense that when an agent enters a coalition then it enters with all its players. The second is the player-Shapley value which takes all players as units, and the payoff of an agent is the sum of the payoffs over all its players. We provide axiomatic characterizations of these two solutions that differ only in a collusion neutrality axiom. The agent-Shapley value satisfies player collusion neutrality stating that collusion of two players belonging to the same agent does not change the payoff of this agent. On the other hand, the player-Shapley value satisfies agent collusion neutrality stating that after a collusion of two agents, the sum of their payoffs does not change. After axiomatizing the player- and agent-Shapley values we apply them to airport games and voting games. |
| Keywords: | Cooperative TU-game; Shapley value; multi-player agent; collusion neutrality; airport games |
| JEL: | C71 |
| Date: | 2012–01–02 |
| URL: | http://d.repec.org/n?u=RePEc:dgr:uvatin:20120001&r=upt |
| By: | Jakas, Vicente |
| Abstract: | The basic asset pricing equation is adapted to include the effects of unemployment, consumers’ expectations, the price level and money supply on money market rates and government bond yields. Expected consumption growth is modelled using European unemployment figures and Eurostat Consumer Confidence Index. The price level is incorporated in the aggregate marginal utility function using production price index (PPI) as a proxy. An affine term structure model is derived using a state space system with an observation equation which links observable yields to these macroeconomic variables and a state equation which describes the dynamics of these variables. Unemployment and consumer confidence index will have a shift and a slope effect on the yield curve, for front-end yields moving faster than in the long end. Production price index exhibits a twist effect (flattening or steepening of the curve) which results in front-end yields shifting in opposite directions to the long end of the curve. This empirical work shows that yields are negatively correlated to money supply, as expected in classical IS-LM models. And that money supply exhibits a slope effect, with the front-end of the curve shifting faster than the longer end. |
| Keywords: | Macroeconomic releases; Term structure of interest rates; Dynamic factors; Affine term structure models |
| JEL: | E43 E12 G12 E52 E44 |
| Date: | 2011–07 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:36029&r=upt |