
on Utility Models and Prospect Theory 
By:  Adriaan R. Soetevent (University of Groningen, the Netherlands); Liting Zhou (University of Amsterdam, the Netherlands) 
Abstract:  Given the possibility to modify the probability of a loss, will a profitmaximizing insurer engage in loss prevention or is it in his interest to increase the loss probability? This paper investigates this question. First, we calculate the expected profit maximizing loss probability within an expected utility framework. We then use Köszegi and Rabin's (2006, 2007) loss aversion model to answer the same question for the case where consumers have referencedependent preferences. Largely independent of the adopted framework, we find that the optimal loss probability is sizable and for many commonly used parameterizations much closer to 1/2 than to 0. Previous studies have argued that granting insurers market power may incentivize them to engage in loss prevention activities, this to the benefit of consumers. Our results show that one should be cautious in doing so because there are conceivable instances where the insurer's interests in modifying the loss probability to against those of consumers. 
Keywords:  loss modification, expected utility, referencedependent preferences, insurance 
JEL:  D11 D42 D81 L12 
Date:  2014–08–21 
URL:  http://d.repec.org/n?u=RePEc:dgr:uvatin:20140111&r=upt 
By:  Milo Bianchi (Toulouse School of Economics); JeanMarc Tallon (Centre d'Economie de la Sorbonne  Paris School of Economics) 
Abstract:  We investigate the empirical relation between ambiguity aversion, risk aversion and portfolio choices. We match administrative panel data on portfolio choices with survey data on preferences over ambiguity and risk. We report three main findings. First, conditional on participation, ambiguity averse investors hold riskier portfolios. Second, they rebalance their portfolio in a contrarian direction relative to the market. Accordingly, their exposure to risk is more stable over time. Third, their portfolios experience higher returns, but they are also more sensitive to market trends. In several instances, the effects of ambiguity aversion stand in sharp contrast with those of risk aversion. 
Keywords:  Portfolio choice, risk, uncertainty. 
JEL:  G11 D81 
Date:  2014–09 
URL:  http://d.repec.org/n?u=RePEc:mse:cesdoc:14065&r=upt 
By:  José Apesteguía; Miguel Angel Ballester 
Abstract:  Discrete choice methods are often used for the estimation of time preferences. We show that these methods have pervasive problems when based on random utility models, for which cases our results establish that the probability of selecting a later option over an earlier one may be greater for higher levels of impatience. This could have profound implications, not only in the experimental estimation of time preferences, but also in a wide variety of empirical papers using such models in dynamic settings. Alternatively, we also show that discrete choice methods built on random preference models are always free of all such problems. 
Keywords:  discrete choice, structural estimation, time, discounting, random utility models, random preference models 
JEL:  C25 D90 
Date:  2014–09 
URL:  http://d.repec.org/n?u=RePEc:bge:wpaper:787&r=upt 
By:  Edoardo Grillo 
Abstract:  We consider a model of electoral competition in which two politicians compete to get elected. Each politician is characterized by a valence, which is unobservable to voters and can take one of two values: high or low. The electorate prefers politicians with high valence, but random shocks may lead to the victory of lowvalence ones. Candidates make statements concerning their valence. We show that if voters are standard expected utility maximizers, politicians' statements lack any credibility and no information transmission takes place. By introducing referencedependent preferences and loss aversion a lÃ Koszegi and Rabin, we show that full revelation is possible. Indeed, if the electorate believes to candidates' announcements, such announcements will affect its reference point. As a result, if voters find out that a candidate lied, pretending to be high valence when she is not, they may decide to support the opponent in order to avoid the loss associated with appointing a candidate worse than expected. 
JEL:  D03 D72 D82 
Date:  2014 
URL:  http://d.repec.org/n?u=RePEc:cca:wpaper:353&r=upt 
By:  Chakroun, Fatma; Abid, Fathi 
Abstract:  This paper considers the optimal asset allocation strategy for bank with stochastic interest rates when there are three types of asset: Bank account, loans and securities. The asset allocation problem is to maximize the expected utility from terminal wealth of a bank's shareholders over a finite time horizon. As a consequence, we apply a dynamic programming principle to solve the HamiltonJacobiBellman (HJB) equation explicitly in the case of the CRRA utility function. A case study is given to illustrate our results and to analyze the effect of the parameters on the optimal asset allocation strategy. 
Keywords:  Bank asset allocation, Stochastic interest rates, Dynamic programming principle, HJB equation, CRRA utility. 
JEL:  G21 
Date:  2014–03 
URL:  http://d.repec.org/n?u=RePEc:pra:mprapa:59295&r=upt 
By:  Marina Núnez (Department of Mathematical Economics, Finance and Actuarial Sciences, University of Barcelona); Tamás Solymosi (‘Momentum’ Game Theory Research Group, Institute of Economics, Centre for Economic and Regional Studies, Hungarian Academy of Sciences) 
Abstract:  We consider various lexicographic allocation procedures for coalitional games with transferable utility where the payoffs are computed in an externally given order of the players. The common feature of the methods is that if the allocation is in the core, it is an extreme point of the core. We first investigate the general relationships between these allocations and obtain two hierarchies on the class of balanced games. Secondly, we focus on assignment games and sharpen some of these general relationships. Our main result is the coincidence of the sets of lemarals (vectors of lexicographic maxima over the set of dual coalitionally rational payoff vectors), lemacols (vectors of lexicographic maxima over the core) and extreme core points. As byproducts, we show that, similarly to the core and the coalitionally rational payoff set, also the dual coalitionally rational payoff set of an assignment game is determined by the individual and mixedpair coalitions, and present an efficient and elementary way to compute these basic dual coalitional values. This provides a way to compute the Alexia value (the average of all lemacols) with no need to obtain the whole coalitional function of the dual assignment game. 
Keywords:  Assignment game, extreme core payoff, Alexia value 
JEL:  C71 
Date:  2014–10 
URL:  http://d.repec.org/n?u=RePEc:has:discpr:1425&r=upt 
By:  Vincenzo Merella; Stephen E. Satchell 
Abstract:  We show that the introduction in a power utility function of a confidence index to sig nal the state of the world allows for an otherwise standard asset pricing model to match the observed consumption growth volatility and excess returns with a reasonable level of relative risk aversion. Our results stem from two quantitative exercises: a calibration and a nonlinear estimation. In both cases, our findings are robust to diÂ¤erent data frequen cies and various indicators of confidence. Our estimations are also robust to a number of instrument specifications. We rationalise this finding by developing a model where monopo listically competitive firms are subject to idiosyncratic shocks, which aÂ¤ect both the quantity and the quality of the goods produced. When households foresee good times, they expect firms to generate higher profits and produce higher quality goods. While greater expected excess returns provide a larger incentive to save, better expected quality of consumption discourages saving, as it lowers the expected marginal utility of any given level of physi cal consumption. Compared to standard consumptionbased frameworks, our model thus predicts a more stable consumption path. Building on the customary notion of confidence indicators as the household expectations on the future state of the economy, we argue that confidence provides a suitable proxy for the unobservable quality of consumption via the positive correlation between the latter and the overall performance of the economy. 
Keywords:  Asset Pricing, Consumer Confidence, Technology Shocks 
JEL:  G12 E21 
Date:  2014 
URL:  http://d.repec.org/n?u=RePEc:cca:wpaper:352&r=upt 
By:  Hubert J. Kiss (Momentum Game Theory Research Group, Institute of Economics, Centre for Economic and Regional Studies Hungarian Academy of Sciences); Ismael RodriguezLara (Economics and international development, Middlesex University London); Alfonso RosaGarcia (Facultad de Ciencias Juridicas y de la Empresa, Universidad Catolica San Antonio) 
Abstract:  We report experimental evidence on gender differences in financial decision that involves three depositors choosing between waiting or withdrawing their money from a common bank. We find that the position in the line, the fact of being observed and the observed decisions are key determinants to explain subjects’ behavior. Although both men and women value being observed, it has a greater effect on women’s decisions. Observing a withdrawal increases the likelihood of withdrawal but women and men do not react differently to what is observed, so they are equally likely to panic if a bank run is already underway. Interestingly, risk aversion has no predictive power on depositors’ behavior. 
Keywords:  bank run, gender difference, strategic uncertainty, experimental evidence, coordination. 
JEL:  C91 D03 D8 G02 J16 
Date:  2014–02 
URL:  http://d.repec.org/n?u=RePEc:has:discpr:1406&r=upt 
By:  Seeun Jung (Université de CergyPontoise, THEMA) 
Abstract:  Individual risk attitudes are widely used in order to predict decisions regarding education. These uses of risk attitudes as a control variable for education decisions, however, have been criticized due to potential reverse causality. The causality between risk aversion and education is not clear, and it is hard to disentangle the different directions. We have a very first attempt to investigate the causal effect of education on risk aversion by looking at the 1973 British Education Reform which increased the end of compulsory schooling from from 15 to 16. We find that years of schooling increase riskaversion level via IV2SLS, which is contrary to the existing literature to our knowledge. This result is especially stronger for those with lower education. We suggest that in early education, education makes individuals more risk averse, whereas in more adult education such as tertiary education, years of schooling diminish risk aversion as suggested in other literatures. In addition, this negative causal effect of education on risk aversion could relieve our concerns about the endogeneity/reverse causality issue when using risk aversion as an explanatory variable for education decisions, because the sign would still credible as coefficients are underestimated. 
Keywords:  Risk Aversion; Education Reform; Instrumental Variable 
JEL:  C36 I21 I28 J24 
Date:  2014 
URL:  http://d.repec.org/n?u=RePEc:ema:worpap:201424&r=upt 
By:  Aiste Ruseckaite (Erasmus University Rotterdam); Peter Goos (Universiteit Antwerpen, Belgium); Dennis Fok (Erasmus University Rotterdam) 
Abstract:  Consumer products and services can often be described as mixtures of ingredients. Examples are the mixture of ingredients in a cocktail and the mixture of different components of waiting time (e.g., invehicle and outofvehicle travel time) in a transportation setting. Choice experiments may help to determine how the respondents' choice of a product or service is affected by the combination of ingredients. In such studies, individuals are confronted with sets of hypothetical products or services and they are asked to choose the most preferred product or service from each set. However, there are no studies on the optimal design of choice experiments involving mixtures. We propose a method for generating an optimal design for such choice experiments. To this end, we first introduce mixture models in the choice context and next present an algorithm to construct optimal experimental designs, assuming the multinomial logit model is used to analyze the choice data. To overcome the problem that the optimal designs depend on the unknown parameter values, we adopt a Bayesian Doptimal design approach. We also consider locally Doptimal designs and compare the performance of the resulting designs to those produced by a utilityneutral (UN) approach in which designs are based on the assumption that individuals are indifferent between all choice alternatives. We demonstrate that our designs are quite different and in general perform better than the UN designs. 
Keywords:  Bayesian design, Choice experiments, Doptimality, Experimental design, Mixture coordinateexchange algorithm, Mixture experiment, Multinomial logit model, Optimal design 
JEL:  C01 C10 C25 C61 C83 C90 C99 
Date:  2014–05–09 
URL:  http://d.repec.org/n?u=RePEc:dgr:uvatin:20140057&r=upt 
By:  Arango, EfraÃn 
Abstract:  In most of the Intermediate Microeconomics or Microeconomic Theory texts, when the demand of individuals subject is analyzed, especially the PriceConsumption paths and IncomeExpansion paths , Examples are presented in which the utility functions correspond to regular preferences, that is, the equations describing the behavior of the curves, correspond to straight lines. The purpose of this paper is to demonstrate through a practical example, what happens in the case where the variations in the prices of any of the goods involved in the analysis (for our case two goods), simultaneously affect the quantities consumed of both goods. In microeconomics textbooks (of which there are many and very good ones) is not performed a detailed exposition of how to calculate the equations corresponding to these curves (Price Consumption path and Income Expansion path) if these do not correspond to linear functions. The document will cover the fundamental concepts that the reader faces when solving these restricted optimization problems, emphasizing the calculation method of the PriceConsumption path equation. 
Keywords:  Keywords: Demanda, Lagrange, Curva ofertaprecio, InterpolaciÃ³n, Polinomio. 
JEL:  C00 C61 D00 D11 
Date:  2014–09–12 
URL:  http://d.repec.org/n?u=RePEc:pra:mprapa:58661&r=upt 
By:  Daniel Gutknecht (Oxford University); Stefan Hoderlein (Boston College); Michael Peters (Yale University) 
Abstract:  Do individuals use all information at their disposal when forming expectations about future events? In this paper we present an econometric framework to answer this question. We show how individual information sets can be characterized by simple nonparametric exclusion restrictions and provide a quantile based test for costly information processing. In particular, our methodology does not require individuals' expectations to be rational, and we explicitly allow for individuals to have access to sources of information which the econometrician cannot observe. As an application, we use microdata on individual income expectations to study the information agents employ when forecasting future earnings. Consistent with models where information processing is costly, we find that individuals' information sets are coarse in that valuable information is discarded. To quantify the utility costs, we calibrate a standard consumption lifecycle model. Consumers would be willing to pay 0.04% of their permanent income to incorporate the econometrician’s information set in their forecasts. This represents a lower bound on the costs of information processing. 
Keywords:  Rational Expectations, Bounded Rationality, Information Set, Costly Information, Consumption 
JEL:  D84 C14 D91 
Date:  2014–10–01 
URL:  http://d.repec.org/n?u=RePEc:boc:bocoec:861&r=upt 