nep-upt New Economics Papers
on Utility Models and Prospect Theory
Issue of 2016‒10‒30
fifteen papers chosen by

  1. Utility Maximization and Indifference Value under Risk and Information Constraints for a Market with a Change Point By Oliver Janke
  2. Optimal Risk-Averse Timing of an Asset Sale: Trending vs Mean-Reverting Price Dynamics By Tim Leung; Zheng Wang
  4. Portfolio Benchmarking under Drawdown Constraint and Stochastic Sharpe Ratio By Ankush Agarwal; Ronnie Sircar
  6. Effort Application in an Arranged Marriage: A Game-Theoretic Analysis By Batabyal, Amitrajeet; Yoo, Seung Jick
  7. Utilitarian population ethics and births timing By Grégory Ponthière
  8. Retirement and the Marginal Utility of Income By Andrew E. Clark; Yarine Fawaz
  9. Current Emotion Research in Economics By Wälde, Klaus; Moors, Agnes
  10. Equilibrium of a production economy with unbounded attainable allocation set By Senda Ounaies; Jean-Marc Bonnisseau; Souhail Chebbi
  11. Ranking Value and Preference: A Model of Superstardom By Harashima, Taiji
  12. Understanding the space–time (in)consistency of the national accounts By Nicholas Oulton
  13. Altruistic and risk preference of individuals and groups By Yoshio Kamijo; Teruyuki Tamura
  14. Vulnerability to poverty: Theory By Cesar Calvo

  1. By: Oliver Janke
    Abstract: In this article we consider an optimization problem of expected utility maximization of continuous-time trading in a financial market. This trading is constrained by a benchmark for a utility-based shortfall risk measure. The market consists of one asset whose price process is modeled by a Geometric Brownian motion where the market parameters change at a random time. The information flow is modeled by initially and progressively enlarged filtrations which represent the knowledge about the price process, the Brownian motion and the random time. We solve the maximization problem and give the optimal terminal wealth depending on these different filtrations for general utility functions by using martingale representation results for the corresponding filtration. Moreover, for a special utility function and risk measure we calculate the utility indifference value which measures the gain of further information for the investor.
    Date: 2016–10
  2. By: Tim Leung; Zheng Wang
    Abstract: This paper studies the optimal risk-averse timing to sell a risky asset. The investor's risk preference is described by the exponential, power, or log utility. Two stochastic models are considered for the asset price -- the geometric Brownian motion and exponential Ornstein-Uhlenbeck models -- to account for, respectively, the trending and mean-reverting price dynamics. In all cases, we derive the optimal thresholds and certainty equivalents to sell the asset, and compare them across models and utilities, with emphasis on their dependence on asset price, risk aversion, and quantity. We find that the timing option may render the investor's value function and certainty equivalent non-concave in price. Numerical results are provided to illustrate the investor's strategies and the premium associated with optimally timing to sell.
    Date: 2016–10
  3. By: Rommel, Jens; Hermann, Daniel; Müller, Malte; Mußhoff, Oliver
    Abstract: Farmers face many risks in economic decision-making. Therefore, understanding farmers’ risk attitudes is important to support decision-making and policy. Economic experiments have become popular to elicit farmers’ risk preferences. However, previous research is inconclusive about the power of simple lotteries or survey questions to predict actual behavior of farmers. In this paper, we experimentally compare the predictive power of four different lottery tasks. In a 2 x 2 full factorial experimental design, we compare the effect of framing the task in an agricultural context vs. an abstract task, as well as the effect of incentivizing the lottery vs. not using monetary incentives. We also introduce three survey items that ask respondents to rank their risk attitude in different domains. We compare these measures against a benchmark of actual risk management instruments farmers are using. An incentivized lottery without contextual framing triggers most risk-seeking behavior among farmers. However, all four lotteries and three survey-based measures correlate only poorly with the use of actual risk management instruments such as hail insurance. Our findings cast doubt on the predictive power of commonly used risk elicitation instruments. Additional methods are necessary to establish greater external validity in the elicitation of farmers’ risk attitudes.
    Keywords: Experimental economics, external validity, farmers, risk attitudes., Farm Management, Risk and Uncertainty,
    Date: 2016
  4. By: Ankush Agarwal; Ronnie Sircar
    Abstract: We consider an investor who seeks to maximize her expected utility derived from her terminal wealth relative to the maximum performance achieved over a fixed time horizon, and under a portfolio drawdown constraint, in a market with local stochastic volatility (LSV). In the absence of closed-form formulas for the value function and optimal portfolio strategy, we obtain approximations for these quantities through the use of a coefficient expansion technique and nonlinear transformations. We utilize regularity properties of the risk tolerance function to numerically compute the estimates for our approximations. In order to achieve similar value functions, we illustrate that, compared to a constant volatility model, the investor must deploy a quite different portfolio strategy which depends on the current level of volatility in the stochastic volatility model.
    Date: 2016–10
  5. By: Bauermeister, Golo-Friedrich; Mußhoff, Oliver
    Abstract: In the past decade, many studies have measured individual risk attitude with different elicitation methods using within-subject design and have found significant disparities across the elicitation methods. According to the existing literature, there are also differences in the observed understanding of the elicitation methods measured by the inconsistency rate. However, there are no studies yet that compares the inconsistency rate across different elicitation methods in a within-subject design. Therefore, we compare both the inconsistency rate and the risk attitude of participants in two different lottery tasks in a within-subject design, namely the lottery task by Holt and Laury (2002) as well as the one by Brick, Visser and Burns (2012). Moreover, we analyze in a between-subject design whether a visualization of a lottery task for a better understanding results in differences in the elicited risk attitude and thus leads to the desired reduction of the inconsistency rate. Results show that the elicited risk attitudes are more risk averse in the more complex Holt-and-Laury task in both display formats. Moreover, we find that the visualization results in more risk averse responses in both lottery tasks. According to the inconsistency rate, we find that the Brick-Visser-Burns task is better understood than the Holt-and-Laury task, especially in the textual display format. Furthermore, the visual display format of the Holt-and-Laury task results in a significantly better understanding compared to the textual display format. Submitted File(s) History of Uploads
    Keywords: Brick-Visser-Burns task, display formats, Holt-and-Laury task, inconsistency rate, risk attitude, Risk and Uncertainty,
    Date: 2016
  6. By: Batabyal, Amitrajeet; Yoo, Seung Jick
    Abstract: In this note we study a simple game model of effort application by two individuals (1 and 2) who wish to have an arranged marriage. We first specify the net utility function of individual i as a function of this individual’s own effort and the effort applied by individual j,i≠j, in three distinct cases. Next, we compute the ith individual’s best response function. Finally, we analyze effort application by two identical pairs of individuals who are located in two different nations. In the first (second) nation, arranged marriages are uncommon (common) and hence it is relatively difficult (straightforward) for the two individuals to apply and coordinate effort. We explain why the net utility of the pair wishing to have an arranged marriage in the first nation is likely to be much lower than the corresponding net utility of the pair in the second nation.
    Keywords: Arranged Marriage, Effort, Net Utility, Static Game, Strategic Complements
    JEL: D13 J12
    Date: 2016–03–19
  7. By: Grégory Ponthière (ERUDITE - Equipe de Recherche sur l’Utilisation des Données Individuelles en lien avec la Théorie Economique - UPEM - Université Paris-Est Marne-la-Vallée - UPEC UP12 - Université Paris-Est Créteil Val-de-Marne - Paris 12, PSE - Paris-Jourdan Sciences Economiques - CNRS - Centre National de la Recherche Scientifique - INRA - Institut National de la Recherche Agronomique - EHESS - École des hautes études en sciences sociales - ENS Paris - École normale supérieure - Paris - École des Ponts ParisTech (ENPC), PSE - Paris School of Economics)
    Abstract: Births postponement is a key demographic trend of the last decades. To examine its social desirability, we study how utilitarian criteria rank histories equal on all dimensions except the age at which individuals give birth to their children. We develop a T-period dynamic overlapping generations economy with a fixed living space, where individual welfare is increasing in the available space per head, and where agents have children in one out of two fertility periods. When comparing finite histories with an equal total number of life-periods, classical, average and critical-level utilitarian criteria select the same fertility timing, i.e. the one leading to the most smoothed population path. When comparing infinite histories with stationary population sizes, utilitarian criteria may select different birth timings, depending on individual utility functions. Those results are compared with the ones obtained when agents value coexistence time with their descendants. Finally, we identify conditions under which a shift from an early births regime to a late births regime is socially desirable.
    Keywords: population ethics,utilitarianism,fertility,birth timing
    Date: 2015–09
  8. By: Andrew E. Clark (PSE - Paris-Jourdan Sciences Economiques - CNRS - Centre National de la Recherche Scientifique - INRA - Institut National de la Recherche Agronomique - EHESS - École des hautes études en sciences sociales - ENS Paris - École normale supérieure - Paris - École des Ponts ParisTech (ENPC), PSE - Paris School of Economics); Yarine Fawaz (UAB - Universitat Autònoma de Barcelona [Barcelona])
    Abstract: The individual level of subjective well-being (SWB) has been shown to predict a number of future observable outcomes. Behaviour may however also be affected by the slope of SWB with respect to certain variables. We here use latentclass analysis to model both intercept and slope heterogeneity in the SWB-income relationship, and construct a continuous measure of the marginal utility of income. We show this marginal utility does predict future behaviour: those who value income more (who have a higher income elasticity of well-being) are less likely to retire. This correlation is found conditional on both the level of income and the level of well-being.
    Keywords: Subjective Well-being,Retirement,Marginal Utility of Income,Latent Class Models
    Date: 2015–09
  9. By: Wälde, Klaus (University of Mainz); Moors, Agnes (KU Leuven)
    Abstract: Positive and negative feelings were central to the development of economics, especially in utility theory in classical economics. While neoclassical utility theory ignored feelings, behavioral economics more recently reintroduced feelings in utility theory. Beyond feelings, economic theorists use full-fledged specific emotions to explain behavior that otherwise could not be understood or they study emotions out of interest for the emotion itself. While some analyses display a strong overlap between psychological thinking and economic modelling, in most cases there is still a large gap between economic and psychological approaches to emotion research. Ways how to reduce this gap are discussed.
    Keywords: emotions, decision making, theory
    JEL: A12 B0 D03
    Date: 2016–10
  10. By: Senda Ounaies (CES - Centre d'économie de la Sorbonne - UP1 - Université Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique, Department of Mathematics - College of Science - University of Tunis El Manar); Jean-Marc Bonnisseau (CES - Centre d'économie de la Sorbonne - UP1 - Université Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique, PSE - Paris School of Economics); Souhail Chebbi (King Saud University - Department of Mathematics - College of Science)
    Abstract: In this paper, we consider a production economy with an unbounded attainable set where the consumers may have non-complete non-transitive preferences. To get the existence of an equilibrium, we provide an asymptotic property on preferences for the attainable consumptions. We show that this condition holds true if the set of attainable allocations is compact or, when preferences are representable by utility functions, if the set of attainable individually rational utility levels is compact. So we extend the previous existence results with unbounded attainable sets in two ways by adding a production sector and considering general preferences.
    Keywords: production economy,unbounded attainable allocations,quasi-equilibrium,non complete non transitive preferences
    Date: 2016–08
  11. By: Harashima, Taiji
    Abstract: Superstars earn extremely high incomes as compared with those of ordinary people, but why? In this paper, I present a model of superstardom that explains the mechanism of extremely high incomes based on the concepts of ranking value and ranking preference. I propose that goods and services possess not only practical values but also ranking values because people derive utility through various types of rankings. This emotional response (i.e., ranking preference) gives monopolistic powers to the producers of some types of goods or services. For some goods and services (e.g., professional sports), the ranking preference is very strong and therefore so is the level of monopolistic power. This strong monopolistic power is the origin of the extremely high incomes of superstars.
    Keywords: Superstar; Income inequality: Ranking Value; Ranking preference; Monopoly
    JEL: D11 D31 D42 D63 J30
    Date: 2016–10–20
  12. By: Nicholas Oulton
    Abstract: Space–time consistency means that an earlier PPP, updated by relative inflation rates, equals a more recent PPP. I show that in the absence of data errors Divisia price indices are space–time consistent provided that the consumer’s utility function is homothetic.
    Keywords: PPP; Divisia; price index; path-dependence; consistency
    JEL: C43 I31 O47
    Date: 2015–07
  13. By: Yoshio Kamijo (School of Economics and Management, Kochi University of Technology); Teruyuki Tamura (School of Economics and Management, Kochi University of Technology)
    Abstract: This study examines whether attitudes toward risk and altruism are affected by being in a group or being alone. Subjects in our experiment were requested only to show their faces to other members without any further communication, differing from previous studies. In experiments of both anonymous investments and donations, we found that subjects who made decisions in a group offered significantly lower amounts than individuals who made decisions alone, even controlling for individuals' risk and altruistic preferences. Our results indicate that people are more risk averse and self-interested when they are in a group.
    Keywords: Group decision, Altruism, Decision under risk
    JEL: C91 C92 D81
    Date: 2016–10
  14. By: Cesar Calvo (Universidad de Piura, Peru)
    Abstract: Two competing strands exist within the theoretical literature on vulnerability to poverty, each with its own policy implications. Vulnerability may be seen as low expected utility and thus stress the danger of self-perpetuating poverty, as the poor shy away from risky, yet necessary decisions to escape their hardship. Alternatively, vulnerability is often construed as expected poverty and provides policy-makers with a forward-looking viewpoint that both sheds light and raises new questions on how best to formulate the targeting of social spending. This paper provides an overview of the theoretical work underpinning each of these competing views.
    Keywords: Poverty, vulnerability, risk aversion.
    JEL: I3
    Date: 2016–09
  15. By: Hannus, Veronika; Sauer, Johannes
    Abstract: Existing agricultural sustainability standards are rarely applied in Germany despite persistent public attention being paid to sustainable farming and growth in markets for sustainable food. Beside the effects of sustainability requirements, important effects of organizational elements in standard design are expected to influence farmers’ standard acceptance. Therefore the development of a utility model is the behavioural economic basis for further research on farmers’ preferences in sustainability standard design. In this preliminary study, organizational standard elements are identified from the literature within the following categories: transactional and direct costs; market effects; risk of application; and farmers’ identification and social gains.
    Keywords: sustainability, assessment systems, standards, farm-level decision-making, farm management, Environmental Economics and Policy, Farm Management, Institutional and Behavioral Economics,
    Date: 2016

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