|
on Utility Models and Prospect Theory |
| By: | Loïc Berger |
| Abstract: | This letter develops a set of simple conditions under which an individual iswilling to save an extra amount of money due to the presence of ambiguity onits second period wealth. This extra precautionary saving motive is naturallyassociated to the notion of ambiguity prudence. |
| Keywords: | ambiguity aversion; non-expected utility; uncertainty; saving; prudence |
| JEL: | D81 D91 E21 |
| Date: | 2013–11 |
| URL: | http://d.repec.org/n?u=RePEc:eca:wpaper:2013/151853&r=upt |
| By: | Anna Bartczak (Faculty of Economic Sciences, Warsaw Ecological Economics Center , University of Warsaw); Susan Chilton (Newcastle University Business School); Jürgen Meyerhoff (Technische Universität Berlin, Institute for Landscape and Environmental Planning) |
| Abstract: | This paper examines how risk preferences and loss aversion affect choices over a risky environmental good, wildfire prevention in Poland. We collect data in a stated preference survey that allows us to calculate both risk aversion and loss aversion parameters from individual respondents in both the financial and environmental domains. In doing so, we are able to confirm that this behaviour is consistent with prospect theory and holds for the majority of respondents. Additionally, we find little evidence of domain specificity of risk: responses to the financial risk questions were good predictors of responses to the environmental risk questions. |
| Keywords: | risk preferences over financial and environmental domains, forest fires, loss aversion, probability weighting, prospect theory |
| JEL: | Q51 D03 D81 |
| Date: | 2014 |
| URL: | http://d.repec.org/n?u=RePEc:war:wpaper:2014-08&r=upt |
| By: | Cox, James C.; Sadiraj, Vjollca; Schmidt, Ulrich |
| Abstract: | This paper presents an experimental study of the random incentive mechanisms which are a standard procedure in economic and psychological experiments. Random incentive mechanisms have several advantages but are incentive-compatible only if responses to the single tasks are independent. This is true if either the independence axiom of expected utility theory or the isolation hypothesis of prospect theory holds. We present a simple test of isolation in the context of choice under risk. In the baseline (one task) treatment, we observe risk behavior in a given decision problem. We show that by adding an asymmetrically dominated choice problem in a random incentive mechanism risk behavior can be manipulated systematically; this violates the isolation hypothesis. The random incentive mechanism thus does not elicit true preferences in our example. |
| Keywords: | random incentive mechanism, isolation, asymmetrically dominated alternatives |
| JEL: | C90 D80 |
| Date: | 2014–03–20 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:54722&r=upt |
| By: | Oleksii Mostovyi |
| Abstract: | In the large financial market, which is described by a model with countably many traded assets, we formulate the problem of the expected utility maximization. Assuming that the preferences of an economic agent are modeled with a stochastic utility and that the consumption occurs according to a stochastic clock, we obtain the "usual" conclusions of the utility maximization theory. We also give a characterization of the value function in the large market in terms of a sequence of the value functions in the finite-dimensional models. |
| Date: | 2014–03 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1403.6175&r=upt |
| By: | Amedeo Piolatto (Universitat de Barcelona & IEB); Matthew D. Rablen (Brunel University) |
| Abstract: | The standard expected utility model of tax evasion predicts that evasion is decreasing in the marginal tax rate (the Yitzhaki puzzle). The existing literature disagrees on whether prospect theory overturns the puzzle. We disentangle four distinct elements of prospect theory and find loss aversion and probability weighting to be redundant in respect of the puzzle. Prospect theory fails to reverse the puzzle for various classes of endogenous specification of the reference level. These classes include, as special cases, the most common specifications in the literature. New specifications of the reference level are needed, we conclude. |
| Keywords: | Prospect theory, tax evasion, Yitzhaki puzzle, stigma, diminishing sensitivity, reference dependence, endogenous audit probability, endogenous reference level |
| JEL: | H26 D81 K42 |
| Date: | 2014 |
| URL: | http://d.repec.org/n?u=RePEc:ieb:wpaper:2013/6/doc2014-3&r=upt |
| By: | Antoine Bommier (Chair for Integrative Risk Management and Economics - ETH Zürich); Bruno Lanz (Center for International Environmental Studies - Graduate Institute Geneva); Stéphane Zuber (Centre d'Economie de la Sorbonne - Paris School of Economics) |
| Abstract: | We study the role of alternative intertemporal preference representations in a model of economic growth, stock pollutant and endogenous risk of catastrophic collapse. We contrast the traditional “discounted utility” model, which assumes risk neutrality with respect to intertemporal utility, with a multiplicative choice model that displays risk aversion in that dimension. First, we show that both representations of preferences can rationalize the same “business as usual” economy for a given interest rate and no pollution externality. Second, once we introduce a collapse risk whose hazard rate is a function of the pollution stock, multiplicative preferences recommend a much more stringent policy response. An illustration in the context of climate change indicates that switching to the multiplicative preference representation has a similar effect, in terms of policy recommendations, as scaling up the schedule of the hazard rate by a factor of 100. |
| Keywords: | Environmental policy, climate change, catastrophic risks, risk aversion, discounting. |
| JEL: | D63 D81 D99 Q53 Q54 |
| Date: | 2014–03 |
| URL: | http://d.repec.org/n?u=RePEc:mse:cesdoc:14017&r=upt |
| By: | Loïc Berger |
| Abstract: | This paper derives simple and plausible conditions under which ambiguityaversion raises the demand for (self-) insurance and self-protection when theeffort is furnished one period before the realization of the uncertainty. Unlikethe recent contribution made by [Alary D. Gollier C. Treich N. 2013. Theeffect of ambiguity aversion on insurance and self-protection. The EconomicJournal], I show that in the most usual situations in which the level of ambiguitydoes not increase with the level of effort, a clear and positive answer canbe given to the question: Does ambiguity aversion raise the level of effort? |
| Keywords: | non-expected utility; self protection; self insurance; ambiguity; prudence |
| JEL: | D61 D81 D91 G11 |
| Date: | 2014–02 |
| URL: | http://d.repec.org/n?u=RePEc:eca:wpaper:2013/156152&r=upt |
| By: | Araujo A.; Chateauneuf A.; Gama-Torres J.; Novinski R. |
| Abstract: | Although it is a phenomenon that is routinely observed in financial markets, the interaction between ambiguity averse and ambiguity lovers was not yet analyzed extensively in the literature of general equilibrium, mainly due to technical issues. In this paper, we show that the wealth aggregate risk plays a role on the existence of equilibrium in Arrow-Debreu economies. Moreover, we study properties of the equilibrium allocations such as condition for risk sharing, and the price behavior in equilibrium in presence of regulation, i.e., state price volatility when regulation is increased, and, for preferences with distorted probabilities with CARA utility functions, the decomposition of risk factor and ambiguity factor in these prices. |
| Date: | 2014–02–25 |
| URL: | http://d.repec.org/n?u=RePEc:ipg:wpaper:2014-181&r=upt |
| By: | Marco A. Marini (Department of Computer, Control and Management Engineering, Universita' degli Studi di Roma "La Sapienza"); Paolo Polidori (University of Urbino); Desiree Teobaldelli (University of Urbino); Davide Ticchi (IMT Institute for Advanced Studies Lucca) |
| Abstract: | One of the standard predictions of the agency theory is that more incentives can be given to agents with lower risk aversion. In this paper we show that this relationship may be absent or reversed when the technology is endogenous and projects with a higher efficiency are also riskier. Using a modified version of the Holmstrom and Milgrom's (1987) framework, we obtain that lower agent's risk aversion unambiguously leads to higher incentives when the technology function linking efficiency and riskiness is elastic, while the risk aversion-incentive relationship can be positive when this function is rigid |
| Keywords: | principal-agent; incentives; risk aversion; endogenous technology |
| Date: | 2014 |
| URL: | http://d.repec.org/n?u=RePEc:aeg:report:2014-01&r=upt |
| By: | Takashi Kamihigashi |
| Abstract: | In this paper we show that multiple interior steady states are pos- sible in the Ramsey model with elastic labor supply. In particular we establish the following three results: (i) for any discount factor and production function, there is a utility function such that a continuum of interior steady states exist; (ii) the number of interior steady states can also be any nite number; and (iii) for any discount factor and production function, there is a utility function such that there is no interior steady state. Some numerical examples are provided |
| Date: | 2014–02–25 |
| URL: | http://d.repec.org/n?u=RePEc:ipg:wpaper:2014-158&r=upt |
| By: | McCAUSLAND, William; MARLEY, A. A. J. |
| Abstract: | We complete the development of a testing ground for axioms of discrete stochastic choice. Our contribution here is to develop new posterior simulation methods for Bayesian inference, suitable for a class of prior distributions introduced by McCausland and Marley (2013). These prior distributions are joint distributions over various choice distributions over choice sets of different sizes. Since choice distributions over different choice sets can be mutually dependent, previous methods relying on conjugate prior distributions do not apply. We demonstrate by analyzing data from a previously reported experiment and report evidence for and against various axioms. |
| Keywords: | Random utility, discrete choice, Bayesian inference, MCMC |
| JEL: | C11 C35 C53 D01 |
| Date: | 2013 |
| URL: | http://d.repec.org/n?u=RePEc:mtl:montde:2013-06&r=upt |
| By: | Hector Chade (arizona state university) |
| Abstract: | under uncertainty. In the model, agents' payoff-relevant characteristics are realized after matching takes place, and matches are formed based on ex-ante attributes that are noisy signals of the true characteristics. We derive conditions under which there is positive or negative assortative matching, and determine the properties of the distributions of ex-post attributes of matched partners. The conditions for sorting relate properties of the match payoff function with the stochastic order imposed on the conditional distributions of the agents' characteristics given their ex-ante attributes. We analyze both the transferable utility case and a class of risk sharing problems with nontransferable utility. Finally, we provide conditions under which the properties of the match payoff function and its degree of complementarity can be identified from observed match data. |
| Date: | 2013 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed013:1222&r=upt |
| By: | Demuynck T.; Cosaert S. (GSBE) |
| Abstract: | In this paper, we combine elementary revealed preference principles and nonparametric estimation techniques in order to obtain nonparametric bounds on the distribution of the money metric utility over a population of heterogeneous households. The main benefit of our approach is that it is independent of any functional specification on the household utility functions, which means that our results are robust against parametric specification errors. We further demonstrate that our methodology can be used to establish bounds on the distribution of the demand function for counterfactual price regimes. In order to demonstrate the relevance of our approach, we illustrate our findings using a repeated cross-sectional household consumption data set. |
| Keywords: | Semiparametric and Nonparametric Methods: General; Consumer Economics: Empirical Analysis; |
| JEL: | D12 C14 |
| Date: | 2014 |
| URL: | http://d.repec.org/n?u=RePEc:unm:umagsb:2014010&r=upt |
| By: | Delaney, Liam; Fink, Gunther; Harmon, Colm |
| Abstract: | The ways in which preferences respond to the varying stress of economic environments is a key question for behavioral economics and public policy. We conducted a laboratory experiment to investigate the effects of stress on financial decision making among individuals aged 50 and older. Using the cold pressor task as a physiological stressor, and a series of intelligence tests as cognitive stressors, we find that stress increases subjective discounting rates, has no effect on the degree of risk-aversion, and substantially lowers the effort individuals make to learn about financial decisions . |
| Keywords: | learning; risk aversion; discounting; financial decisions; stress |
| Date: | 2014–03 |
| URL: | http://d.repec.org/n?u=RePEc:stl:stledp:2014-02&r=upt |
| By: | Farzin, Y. Hossein; Wendner, Ronald |
| Abstract: | The standard neoclassical growth model with Cobb-Douglas production predicts a monotonically declining saving rate, when reasonably calibrated. Ample empirical evidence, however, shows that the transition paths of most countries’ saving rates exhibit a statistically significant hump-shaped pattern. Prior literature shows that CES production may imply a hump-shaped pattern of the saving rate (Goméz, 2008). However, the implied magnitude of the hump falls short of what is seen in empirical data. We introduce two non-standard features of preferences into a neoclassical growth model with CES production: hyperbolic discounting and short planning horizons. We show that, in contrast to the commonly accepted argument, in general (except for the special case of logarithmic utility) a model with hyperbolic discounting is not observationally equivalent to one with exponential discounting. We also show that our framework implies a hump-shaped saving rate dynamics that is consistent with empirical evidence. Hyperbolic discounting turns out to be a major factor explaining the magnitude of the hump of the saving rate path. Numerical simulations employing a generalized class of hyperbolic discount functions, which we term regular discount functions, support the results. |
| Keywords: | Saving rate dynamics, non-monotonic transition path, hyperbolic discounting, regular discounting, short-term planning, neoclassical growth model |
| JEL: | D91 E21 O40 |
| Date: | 2014–03–19 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:54614&r=upt |
| By: | Bo Honore (Institute for Fiscal Studies and Princeton); Aureo de Paula (Institute for Fiscal Studies and University College London) |
| Abstract: | This paper introduces a bivariate version of the generalized accelerated failure time model. It allows for simultaneity in the econometric sense that the two realized outcomes depend structurally on each other. The proposed model also has the feasure that it will generate equal durations with positive probability. The motivating example is retirement decisions by married couples. In that example it seems reasonable to allow for the possibility that the each partner's optimal retirement time depends on the retirement time of the spouse. Moreover, the data suggest that the wife and the husband retire at the same time for a non-negligible fraction of couples. Our approach takes as starting point a stylized economic model that leads to a univariate generalized accelerated failure time model. The covariates of that generalized accelerated failure time model act as utility-flow shifters in the economic model. We introduce simultaneity by allowing the utility flow in retirement to depend on the retirement status of the spouse. The econometric model is then completed by assuming that the observed outcome is the Nash bargaining solution in that simple economic model. The advantage of this approach is that it includes independent realizations from the generalized accelerated failure time model as a special case, and deviations from this special case can be given an economic interpretation. We illustrate the model by studying the joint retirement decisions in married couples using the Health and Retirement Study. We provide a discussion of relevant identifying variation and estimate our model using indirect inference. The main empirical nding is that the simultaneity seems economically important. In our preferred specication the indirect utility associated with being retired increases by approximately 5% if one's spouse is already retired and unobservables exhibit positive correlation. The estimated model also predicts that the indirect eect of a change in husbands' pension plan on wives' retirement dates is about 4% of the direct eect on the husbands. |
| JEL: | J26 C41 C3 |
| Date: | 2014–03 |
| URL: | http://d.repec.org/n?u=RePEc:ifs:cemmap:08/14&r=upt |
| By: | Sibilla Di Guida; Ido Erev; Davide Marchiori |
| Abstract: | This paper examines the effects of different cultural backgrounds on decisions from experience. In Experiment 1, participants from Denmark, Israel, and Taiwan faced each of six binary choice problems for 200 trials. The participants did not receive prior description of the payoff distributions, but obtained complete feedback after each choice. Comparison of choice behavior across cultural groups reveals similar overall choice rates, and similar indications of underweighting of rare events and of the payoff variability effect. In addition, subjects from Taiwan exhibited a stronger tendency to chase recent outcomes. That is, subjects from East Asia behaved “as if” they expected less change in the environment than subjects from West Asia and West Europe. Experiment 2 shows that an increase in the complexity of the choice tasks (i.e. adding slight variability to the safe option, and increasing the number of replicas for each option) does not break the similarity of choice rates across cultural groups, but reverses the observed chasing pattern: In Experiment 2, Israeli participants tended to chase recent outcomes more than did the Taiwanese. These results can be summarized with the assumption that the tendency to rely of small samples of past experiences (a sufficient condition for underweighting of rare events and the payoff variability effect) is robust to cultural differences, but the exact sampling process is culture- and framing-specific. An increase in the number of possible outcomes increases the probability of sampling the most recent trial in the West, but not in the East. Thus, behavior in the East appears less sensitive to task complexity. |
| Keywords: | cross cultural decision making; rare events; decisions from experience; clicking paradigm; recency effect |
| Date: | 2014–03 |
| URL: | http://d.repec.org/n?u=RePEc:eca:wpaper:2013/158970&r=upt |
| By: | Amedeo Piolatto (Universitat de Barcelona & IEB); Florian Schuett (Tilburg University) |
| Abstract: | We build a framework linking competition in the media market to political participation. Media outlets report on the ability of candidates running for office and compete for audience through their choice of slant. Citizens consume news only if the expected utility of being informed about candidates' ability is sufficiently large for their group collectively. Our results can reconcile seemingly contradictory empirical evidence showing that entry in the media market can either increase or decrease turnout. While information pushes up independent turnout, partisans adjust their turnout to the ability of their preferred candidate, and on average they vote less when informed. |
| Keywords: | Demand for news, electoral turnout, group-rule utilitarianism, media bias |
| JEL: | D72 L82 |
| Date: | 2014 |
| URL: | http://d.repec.org/n?u=RePEc:ieb:wpaper:2013/6/doc2014-14&r=upt |
| By: | Ketter, W.; Collins, J.; Reddy, P.; Weerdt, M.M. |
| Abstract: | This is the specification for the Power Trading Agent Competition for 2014 (Power TAC 2014). Power TAC is a competitive simulation that models a “liberalized” retail electrical energy market, where competing business entities or “brokers” offer energy services to customers through tariff contracts, and must then serve those customers by trading in a wholesale market. Brokers are challenged to maximize their profits by buying and selling energy in the wholesale and retail markets, subject to fixed costs and constraints. Costs include fees for publication and withdrawal of tariffs, and distribution fees for transporting energy to their contracted customers. Costs are also incurred whenever there is an imbalance between a broker’s total contracted energy supply and demand within a given time slot. The simulation environment models a wholesale market, a regulated distribution utility, and a population of energy customers, situated in a real location on Earth during a specific period for which weather data is available. The wholesale market is a relatively simple call market, similar to many existing wholesale electric power markets, such as Nord Pool in Scandinavia or FERC markets in North America, but unlike the FERC markets we are modeling a single region, and therefore we model locational-marginal pricing through a simple manipulation of the wholesale supply curve. Customer models include households, electric vehicles, and a variety of commercial and industrial entities, many of which have production capacity such as solar panels or wind turbines. All have “real-time” metering to support allocation of their hourly supply and demand to their subscribed brokers, and all are approximate utility maximizers with respect to tariff selection, although the factors making up their utility functions may include aversion to change and complexity that can retard uptake of marginally better tariff offers. The distribution utility models the regulated natural monopoly that owns the regional distribution network, and is responsible for maintenance of its infrastructure. Real-time balancing of supply and demand is managed by a market-based mechanism that uses economic incentives to encourage brokers to achieve balance within their portfolios of tariff subscribers and wholesale market positions, in the face of stochastic customer behaviors and weather-dependent renewable energy sources. The broker with the highest bank balance at the end of the simulation wins. |
| Keywords: | autonomous agents, electronic commerce, energy, preferences, portfolio management, power, policy guidance, sustainability, trading agent competition |
| Date: | 2014–03–19 |
| URL: | http://d.repec.org/n?u=RePEc:ems:eureri:50740&r=upt |