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on Utility Models and Prospect Theory |
| By: | Bas Donkers (Erasmus University Rotterdam); Carlos J.S. Lourenco (Erasmus University Rotterdam); Benedict G.C. Dellaert (Erasmus University Rotterdam); Daniel G. Goldstein (Microsoft Research) |
| Abstract: | In this paper we propose the use of <I>preferred outcome</I> distributions as a new method to elicit individuals' value and probability weighting functions in decisions under risk. Extant approaches for the elicitation of these two key ingredients of individuals' risk attitude typically rely on a long, chained sequence of lottery choices. In contrast, preferred outcome distributions can be elicited through an intuitive graphical interface, and, as we show, the information contained in two preferred outcome distributions is sufficient to identify non-parametrically both the value function and the probability weighting function in rank-dependent utility models. To illustrate our method and its advantages, we run an incentive-compatible lab study in which participants use a simple graphical interface - the Distribution Builder (Goldstein et al. 2008) - to construct their preferred outcome distributions, subject to a budget constraint. Results show that estimates of the value function are in line with previous research but that probability weighting biases are diminished, thus favoring our proposed approach based on preferred outcome distributions. |
| Keywords: | Decision making, risk preference, distribution builder, rank dependent utility, preference elicitation, micro economics |
| JEL: | D81 D83 M39 |
| Date: | 2013–05–08 |
| URL: | http://d.repec.org/n?u=RePEc:dgr:uvatin:2013065&r=upt |
| By: | Arnt O. Hopland (Department of Economics, Norwegian University of Science and Technology); Egil Matsen (Department of Economics, Norwegian University of Science and Technology); Bjarne Strøm (Department of Economics, Norwegian University of Science and Technology) |
| Abstract: | This paper studies the relationship between income and risky choice in a field ex- periment where stakes are of first-orderimportance to the subjects' living standards. We combine observations of stopping decisions in a Norwegian game show with reliable data on each subject's income. Participants in the experiment are randomly drawn from a large subject pool that is representative of the Norwegian population. Our re- sults clearly indicate that people are risk-averse in making large-stake choices and that decision makers with high income are more willing to accept nancial risk. |
| Keywords: | Risky choice; Field experiment |
| JEL: | C9 C93 D81 |
| Date: | 2013–04–16 |
| URL: | http://d.repec.org/n?u=RePEc:nst:samfok:14313&r=upt |
| By: | Halko, Marja Liisa; Kaustia, Markku |
| Abstract: | This paper investigates whether preference interactions can explain why risk preferences change over time and across contexts. We conduct an experiment in which subjects accept or reject gambles involving real money gains and losses. We introduce within-subject variation by alternating subjectively liked music and disliked music in the background. We find that favourite music increases risk-taking, and disliked music suppresses risk-taking, compared to a baseline of no music. Several theories in psychology propose mechanisms by which mood affects risktaking, but none of them fully explain our results. The results are, however, consistent with preference complementarities that extend to risk preference. -- |
| Keywords: | Risk Taking,Music,Preference Interaction |
| JEL: | D81 G11 |
| Date: | 2012 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:cfswop:201209&r=upt |
| By: | Hannu Salonen (Department of Economics, University of Turku, Finland) |
| Abstract: | We study games with utilitarian preferences: the sum of individual utility functions is a generalized ordinal potential for the game. It turns out that generically, any finite game with a potential, ordinal potential, or generalized ordinal potential is better reply equivalent to a game with utilitarian preferences. It follows that generically, finite games with a generalized ordinal potential are better reply equivalent to potential games. For infinite games we show that a continuous game has a continuous ordinal potential, iff there is a better reply equivalent continuous game with utilitarian preferences. For such games we show that best reply improvement paths can be used to approximate equilibria arbitrarily closely. |
| Keywords: | potential games, best reply equivalence, utilitarian preferences |
| JEL: | C72 D43 |
| Date: | 2013–05 |
| URL: | http://d.repec.org/n?u=RePEc:tkk:dpaper:dp85&r=upt |
| By: | Pagel, Michaela |
| Abstract: | I incorporate expectations-based reference-dependent preferences into a dynamic stochastic model to explain three major life-cycle consumption facts; the intuitions behind these three implications constitute novel connections between recent advances in behavioral economics and prominent ideas in the macro consumption literature. First, expectations-based loss aversion rationalizes excess smoothness and sensitivity in consumption, the puzzling empirical observation of lagged consumption responses to income shocks. Intuitively, in the event of an adverse shock, the agent delays painful cuts in consumption to allow his reference point to decrease. Second, the preferences generate a hump-shaped consumption profile. Early in life, consumption is low due to a first-order precautionary-savings motive, but as uncertainty resolves, this motive is dominated by time-inconsistent overconsumption, forcing consumption to decline toward the end of life. Third, consumption drops at retirement. When uncertainty is absent, the agent does not overconsume because he dislikes the associated certain loss in future consumption. Additionally, I obtain several new predictions about consumption; compare the preferences with habit formation, hyperbolic discounting, and temptation disutility; and structurally estimate the preference parameters. |
| Keywords: | Expectations-based reference-dependent preferences, life-cycle consumption, excess smoothness, excess sensitivity |
| JEL: | D03 D91 |
| Date: | 2013–02–15 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:47138&r=upt |
| By: | Vassalos, Michael; Dillon, Carl R.; Coolong, Timothy |
| Keywords: | Agribusiness, Farm Management, Q13, |
| Date: | 2013 |
| URL: | http://d.repec.org/n?u=RePEc:ags:aaea13:149476&r=upt |
| By: | Keita Owari (The University of Tokyo) |
| Abstract: | We consider the pointwise supremum of a family of convex integral functionals of essentially bounded random variables, each associated to a common convex integrand and a respective probability measure belonging to a dominated weakly compact convex set. Its conjugate functional is analyzed, providing a pair of upper and lower bounds as direct sums of common regular part and respective singular parts, which coincide when the defining set of probabilities is a singleton, as the classical Rockafellar theorem, and these bounds are generally the best in a certain sense. We then investigate when the conjugate eliminates the singular measures, which a fortiori implies the equality of the upper and lower bounds, and its relation to other finer regularity properties of the original functional and of the conjugate. As an application, a general duality result in the robust utility maximization problem is obtained. |
| Date: | 2013–05 |
| URL: | http://d.repec.org/n?u=RePEc:cfi:fseres:cf319&r=upt |
| By: | Tshilidzi Marwala |
| Abstract: | In this paper the theory of semi-bounded rationality is proposed as an extension of the theory of bounded rationality. In particular, it is proposed that a decision making process involves two components and these are the correlation machine, which estimates missing values, and the causal machine, which relates the cause to the effect. Rational decision making involves using information which is almost always imperfect and incomplete as well as some intelligent machine which if it is a human being is inconsistent to make decisions. In the theory of bounded rationality this decision is made irrespective of the fact that the information to be used is incomplete and imperfect and the human brain is inconsistent and thus this decision that is to be made is taken within the bounds of these limitations. In the theory of semi-bounded rationality, signal processing is used to filter noise and outliers in the information and the correlation machine is applied to complete the missing information and artificial intelligence is used to make more consistent decisions. |
| Date: | 2013–05 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1305.6037&r=upt |
| By: | Jean-Pierre Benoit; Juan Dubra |
| Abstract: | We conduct two experiments of the claim that people are overconfident, using new tests of overplacement that are based on a formal Bayesian model. Our two experi- ments, on easy quizzes, find overplacement. More precisely, we find apparently over- confident data that cannot be accounted for by a rational population of expected utility maximizers with a good understanding of the nature of the quizzes they took. The finding is of particular interest because Benoit and Dubra (2011) have shown that the vast majority of the existing findings on the better-than-average efect are actually consistent with Bayesian updating. |
| Keywords: | Overcon?dence; Better than Average; Experimental Economics; Irrationality; Signalling Models. |
| JEL: | D11 D12 D82 D83 |
| Date: | 2013 |
| URL: | http://d.repec.org/n?u=RePEc:mnt:wpaper:1301&r=upt |
| By: | Vladimir Cherny; Jan Obloj |
| Abstract: | We study the portfolio selection problem of a long-run investor who is maximising the asymptotic growth rate of her expected utility. We show that, somewhat surprisingly, it is essentially not affected by introduction of a floor constraint which requires the wealth process to dominate a given benchmark at all times. We further study the notion of long-run optimality of wealth processes via convergence of finite horizon value functions to the asymptotic optimal value. We characterise long-run optimality under floor and drawdown constraints. |
| Date: | 2013–05 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1305.6831&r=upt |
| By: | Kiryl Khalmetski; Axel Ockenfels; Peter Werner |
| Abstract: | People do not only feel guilt from not living up to others' expectations (Battigalli and Dufwenberg (2007)), but may also like to exceed them. We propose a model that generalizes the guilt aversion model to capture the possibility of positive surprises when making gifts. A model extension allows decision makers to care about others' attribution of intentions behind surprises. We test the model in two dictator game experiments. Experiment 1 shows a strong causal effect of recipients' expectations on dictators' transfers. Moreover, in line with our model, the correlation between transfers and expectations can be both, positive and negative, obscuring the effect in the aggregate. Experiment 2 shows that dictators care about what recipients know about the intentions behind surprises. |
| Keywords: | guilt aversion, surprise seeking, dictator game, consensus effect |
| JEL: | C91 D64 |
| Date: | 2013–05–09 |
| URL: | http://d.repec.org/n?u=RePEc:kls:series:0061&r=upt |
| By: | Malte Sundkötter; Daniel Ziegler (Chair for Management Sciences and Energy Economics, University of Duisburg-Essen) |
| Abstract: | Investments in power generation assets are risky due to high construction costs and long asset lifetimes. Technology diversification in generation portfolios represents one option to reduce long-term investment risks for risk-averse decision makers. In this article, we analyze the impact of market imperfections induced by risk-aversion on the long-term investment portfolio structure in the market. We show that risk-averse electricity market agents who receive a managerial profit share may shift the technology structure in the market significantly away from the welfare optimum. A numerical example provides estimates on the potential scale of this effect and discusses sensitivities of key parameters. |
| Keywords: | Nodal Pricing, Market Design, Electricity Markets |
| JEL: | G11 L94 Q43 C45 |
| Date: | 2013–04 |
| URL: | http://d.repec.org/n?u=RePEc:dui:wpaper:1303&r=upt |
| By: | Lee, Carmen; Kräussl, Roman; Paas, Leo |
| Abstract: | This paper investigates the effect of anticipated/experienced regret and pride on individual investors' decisions to hold or sell a winning or losing investment, in the form of the disposition effect. As expected the results suggest that in the loss domain, low anticipated regret predicts a greater probability of selling a losing investment. While in the gain domain, high anticipated pride indicates a greater probability of selling a winning investment. The effects of high experienced regret/pride on the selling probability are found as well. An unexpected finding is that regret (pride) seems to be not only relevant for the loss (gain) domain, but also for the gain (loss) domain. In addition, this paper presents evidence of interconnectedness between anticipated and experienced emotions. The authors discuss the implications of these findings and possible avenues for further research. -- |
| Keywords: | Regret,Pride,Disposition Effect,Risky Decision |
| Date: | 2012 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:cfswop:201217&r=upt |
| By: | Cole, Harold L.; Kim, Soojin; Krueger, Dirk |
| Abstract: | This paper constructs a dynamic model of health insurance to evaluate the short- and long run effects of policies that prevent firms from conditioning wages on health conditions of their workers, and that prevent health insurance companies from charging individuals with adverse health conditions higher insurance premia. Our study is motivated by recent US legislation that has tightened regulations on wage discrimination against workers with poorer health status (Americans with Disability Act of 2009, ADA, and ADA Amendments Act of 2008, ADAAA) and that will prohibit health insurance companies from charging different premiums for workers of different health status starting in 2014 (Patient Protection and Affordable Care Act, PPACA). In the model, a trade-off arises between the static gains from better insurance against poor health induced by these policies and their adverse dynamic incentive effects on household efforts to lead a healthy life. Using household panel data from the PSID we estimate and calibrate the model and then use it to evaluate the static and dynamic consequences of no-wage discrimination and no-prior conditions laws for the evolution of the cross-sectional health and consumption distribution of a cohort of households, as well as ex-ante lifetime utility of a typical member of this cohort. In our quantitative analysis we find that although a combination of both policies is effective in providing full consumption insurance period by period, it is suboptimal to introduce both policies jointly since such policy innovation induces a more rapid deterioration of the cohort health distribution over time. This is due to the fact that combination of both laws severely undermines the incentives to lead healthier lives. The resulting negative effects on health outcomes in society more than offset the static gains from better consumption insurance so that expected discounted lifetime utility is lower under both policies, relative to only implementing wage nondiscrimination legislation. -- |
| Keywords: | Health,Insurance,Incentive |
| JEL: | E61 H31 I18 |
| Date: | 2012 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:cfswop:201218&r=upt |
| By: | HATAMI-MARBINI, Adel (Université catholique de Louvain, CORE and Louvain School of Management, Belgium); AGRELL, Per (Université catholique de Louvain, CORE and Louvain School of Management, Belgium); AGHAYI, Nazila (Islamic Azad University, Tehran, Iran) |
| Abstract: | The aggregate black-box approach of conventional Data Envelopment Analysis (DEA) limits its usefulness in situations where the observation is the result of independent decision making in sub-units (sub-DMUs), sequentially linked through processes or semi-finished products. The situation is commonly found in e.g supply chain management, health care provision and environmental management (waste water treatment). Alternative approaches for sublevel evaluations include two-stage or multi-stage models, where intermediate outputs or inputs are identified to span local production possibility spaces. However, the reliance upon numeric values for such intermediate inputs or outputs adds an additional difficulty that may lower the value of the assessment. In this paper, we present an approach for two-stage evaluation with interval data to resolve this problem. The results show that ignoring the interval quality of the data leads to distorted evaluations, both for the subunit and the system efficiency. The proposed method obtains an efficiency interval consisting in an upper and a lower bound for the system efficiency and the sub-DMU efficiency. In order to link two stages, we consider the interval intermediate measures that are outputs and inputs for the first stage and the second stage, respectively. The derived interval metric, along with its mean, provides a more informative basis for multi-stage evaluation in the presence of imprecise data. The ranks of DMUs and sub-DMUs are obtained based on their interval efficiencies. |
| Keywords: | data envelopment analysis, two-stage process, interval data, interval efficiency, ranking |
| JEL: | C14 M11 C61 |
| Date: | 2013–02–22 |
| URL: | http://d.repec.org/n?u=RePEc:cor:louvco:2013004&r=upt |