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on Utility Models and Prospect Theory |
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Issue of 2019‒11‒18
seventeen papers chosen by |
| By: | Xiaoyu Cheng |
| Abstract: | In the case where beliefs are ambiguous and represented by multiple priors, a decision maker (DM)'s updating behavior may also include a revision and refinement of her initial belief, a process which is absent from the Bayesian updating. As known in the literature, Maximum Likelihood (ML) updating provides one method of such refinement. The present paper provides an axiomatization of ML for preferences admit Maxmin Expected Utility (MEU) representation. ML and Full Bayesian (FB) are two updating rules with polar opposite methods of refining ambiguous beliefs. The present paper proposes and axiomatizes a new updating rule, Relative Maximum Likelihood (RML), for when a DM's conditional preference is not as extreme as either case. RML updates a linear contraction of the set of priors with respect to the maximum likelihood priors. The linear contraction parameter captures the relative attitudes of the DM towards ML with respect to FB. In particular, when the parameter takes either one of the two extreme values (0 or 1), RML reduces to FB or ML respectively. This paper also characterizes the Extended RML updating rule for ex-ante preferences that in addition satisfy comonotonic independence. This rule, which is related to RML, further preserves comonotonic independence for the updated preferences |
| Date: | 2019–11 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1911.02678&r=all |
| By: | DRAGAN Irinel, (University of Texas); DEHEZ Pierre, (CORE, UCLouvain) |
| Abstract: | The concept of semivalue of a transferable utility game has been introduced by Dubey, Neyman and Weber as weighted sum of marginal contributions. Later, Puente has introduced a particular class of semivalues, called binomial semivalues, where weights are obtained through a recursive procedure. In the present paper, we extend Puente's procedure to obtain an equivalent representation of semivalues that turns out to be useful to solve the inverse problem and the question of coalitional rationality. |
| Keywords: | transferable utility games, semivalues, inverse problem, power game |
| JEL: | C71 |
| Date: | 2019–06–18 |
| URL: | http://d.repec.org/n?u=RePEc:cor:louvco:2019010&r=all |
| By: | HAFNER Christian, (Université catholique de Louvain); KYRIAKOPOULOU Dimitra, (Université catholique de Louvain, CORE, Belgium) |
| Abstract: | One of the implications of the intertemporal capital asset pricing model (CAPM) is that the risk premium of the market portfolio is a linear function of its variance. Yet, estimation theory of classical GARCH-in-mean models with linear-in-variance risk premium requires strong assumptions and is incomplete. We show that exponential-type GARCH models such as EGARCH or Log-GARCH are more natural in dealing with linear-in-variance risk premia. For the popular and more difficult case of EGARCH-in-mean, we derive conditions for the existence of a unique stationary and ergodic solution and invertibility following a stochastic recurrence equation approach. We then show consistency and asymptotic normality of the quasi maximum likelihood estimator under weak moment assumptions. An empirical application estimates the dynamic risk premia of a variety of stock indices using both EGARCH-M and Log-GARCH-M models. |
| Keywords: | GARC H-in-Mean, EGARCH, Log-GARCH, CAPM, risk premium, maximum likelihood, stochastic recurrence equation |
| JEL: | C71 C78 |
| Date: | 2019–07–10 |
| URL: | http://d.repec.org/n?u=RePEc:cor:louvco:2019013&r=all |
| By: | Sebastian Gechert; Jan Siebert |
| Abstract: | Preferences over wealth can explain why households do not spend more when real interest rates fall, because they save more than optimal under a standard model. However, little is known about preferences over wealth empirically. We run an intentionally simple lab experiment on intertemporal spending and saving decisions with 180 students. Under a positive discount factor, zero interest and linear utility, maximizing behaviour would imply spending any funds instantaneously. While half of the participants behave optimally, we find a robust pattern where participants on average form and maintain a stock of wealth, consistent with wealth entering the utility function directly. |
| Keywords: | consumption; saving motives; wealth; experiment |
| JEL: | D12 E21 E62 H23 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:imk:wpaper:200-2019&r=all |
| By: | Alkire, Sabina; Deneuluin, Severine |
| Abstract: | The paper deals with evaluating the adequacy of the assumption that in economic transactions people are self-interested insofar as they are motivated solely by the concern of maximizing their own utility, and in particular with assessing how this assumption affects within-group behaviour. Policy and incentive structures based on the assumption of exogenous and self-interest motivation can undermine other sources of motivation and have negative effects both on co-operative behaviour and also on economic efficiency. The paper sketches the motivational assumption of homo aconomicus: in the classical formulation, in rational choice theory and in Becker's later work which introduces personal and social capital into individual utility function. It then challenges the position that homo aconomicus contains an adequate characterization of human motivation for co-operative within-group behaviour. It introduces alternative motivational behaviours: philia and altruism, identity and self-expression, moral rules, intrinsic motivation and social norms. It argues that motivations are complex and multiple; a single assumption of utility maximization is insufficient for policy purposes. As the individual is always a social being, how she behaves will be dependent on the social context in which she is acting. If motivations are endogenous, and if under certain conditions maximizing motivation displaces other sources of motivation, then these indirect effects, and their long-term consequences for efficiency and equity, should be taken into account in framing economic policies. |
| Keywords: | International Development |
| URL: | http://d.repec.org/n?u=RePEc:ags:widerw:295512&r=all |
| By: | Lionel de Boisdeffre (CES - Centre d'économie de la Sorbonne - CNRS - Centre National de la Recherche Scientifique - UP1 - Université Panthéon-Sorbonne, CATT - Centre d'Analyse Théorique et de Traitement des données économiques - UPPA - Université de Pau et des Pays de l'Adour) |
| Abstract: | We consider a pure exchange economy, where agents, typically asymmetrically informed, exchange securities, on financial markets, and commodities, on spot markets. Consumers have private characteristics, anticipations and beliefs, and no model to forecast prices. They are dispensed with rational expectation and bounded rationality assumptions, such as Radner's (1972, 1979), Kurz' (1994) or Koutsougeras-Yannelis' (1999). We show that they face an incompressible uncertainty, represented by a so-called "minimum uncertainty set". This uncertainty typically adds to the exogenous one, on the state of nature, an 'endogenous uncertainty' over future spot prices. At equilibrium, all agents expect the 'true' price on every spot market as a possible outcome, and elect optimal strategies, ex ante, which clear on all markets, ex post. We show this sequential equilibrium exists whenever agents' prior anticipations embed the minimum uncertainty set. This outcome differs from the standard generic existence results of Hart (1975), Radner (1979), and Duffie-Shaffer (1985), among others, based on the rational expectations of prices. |
| Keywords: | Sequential equilibrium,Temporary equilibrium,Perfect foresight,Existence,Rational expectations,Financial markets,Asymmetric Information,Arbitrage |
| Date: | 2018–06 |
| URL: | http://d.repec.org/n?u=RePEc:hal:wpaper:hal-02141059&r=all |
| By: | Thomas Görzen (University of Paderborn) |
| Abstract: | Companies increasingly involve the crowd for collective decision making and, to aggregate the decisions, they commonly average the scores. By ignoring crowdworkers’ different levels of experience and decision biases, this method may not favor the best outcome. Alternatively, decisions can be weighted in favor of the more experienced judges in the crowd. However, previous research is inconclusive as to whether more experienced individuals are any better at avoiding decision biases. To answer this question, we conduct online crowd-based experiments with a range of treatments, comparing the anchoring effect of individuals with different levels of experience. Results indicate that not only does greater experience not protect crowdworkers from the anchoring effect but it increases their confidence in their decision, compared to less experienced individuals, even if they are wrong. Our findings provide valuable insights for both researchers and practitioners interested in improving the effectiveness of crowdworking decision-making.\\ |
| Keywords: | behavioral economics, digital nudging, decision bias, anchoring, crowdsourcing |
| JEL: | L86 C93 M55 O32 |
| Date: | 2019–03 |
| URL: | http://d.repec.org/n?u=RePEc:pdn:dispap:55&r=all |
| By: | Andrea Lamorgese (Bank of Italy); Dario Pellegrino (Bank of Italy) |
| Abstract: | Several stylized facts, such as the correlation between house prices and sales volumes, suggest the existence of downward price rigidity in real estate markets. In this paper we explore a potential explanation for this behaviour by testing whether initial purchase prices and homeowners’ appraisals of their dwellings show reference dependence. Using data from a sample of Italian households, we test whether - conditional on both observable and unobservable characteristics - homeowners appraise the value of their main dwelling differently depending on the price at which they purchased it. We find that homeowners expecting a loss do not adjust their appraisals significantly in response to downward market conditions while, for those expecting a gain, the appraisals are independent of the price at which they bought the home. While loss aversion is mildly higher among poorer and less educated households, we find strong evidence of it across all demographic groups in our sample. |
| Keywords: | loss aversion, prospect theory, housing market |
| JEL: | L10 R21 R31 |
| Date: | 2019–11 |
| URL: | http://d.repec.org/n?u=RePEc:bdi:wptemi:td_1248_19&r=all |
| By: | Vincenzo Platino (Università di Napoli Federico II and CSEF) |
| Abstract: | We consider a private ownership production economy with consumption and production externalities. Each household is characterized by a consumption set described by a possibility function, an endowment of commodities, and preferences described by a utility function. Each firm is owned by the household and it is characterized by technology desribed by a transformation function. Describing equlibria in terms of first order conditions and market clearing conditions, and using a homotopy approach, we prove the non-emptiness and compactness of the set of competitive equilibria with consumptions and prices strictly positive. |
| Keywords: | Externalities, Private ownership economy, Competitive equilibrium, Homotopy approach. |
| JEL: | C62 D50 D51 D62 |
| Date: | 2019–11–11 |
| URL: | http://d.repec.org/n?u=RePEc:sef:csefwp:549&r=all |
| By: | Würtenberger, Daniel |
| Abstract: | Microinsurance adoption in developing countries is low, despite its potential to foster economic growth. Recent research is not able to explain the low demand within the neoclassical framework. I contribute to this stream of research by proposing rational as well as boundedly rational explanations for the low attractiveness of microinsurance within a stochastic framework. More precisely, I analyze weather index insurance. My model makes separate predictions for close farmers, whose location is near a weather station, and distant farmers. Results show that the latter ask for less than 50% insurance coverage even under perfect rationality. I extend the model by integrating incorrect beliefs. I can show that a lack of trust reduces insurance demand most for close farmers, while a lack of knowledge about the insurance negatively affects the demand of distant farmers. Moreover, subsidies are more effective for close than for distant farmers. |
| Keywords: | index insurance,basis risk,microinsurance,developing countries,understanding of insurance products,trust in insurer |
| JEL: | G22 D91 Q12 O13 O16 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:esprep:206408&r=all |
| By: | Fabien Perez (ENSAE - Ecole Nationale de la Statistique et de l'Analyse Economique - Ecole Nationale de la Statistique et de l'Analyse Economique); Guillaume Hollard (CES - Centre d'économie de la Sorbonne - CNRS - Centre National de la Recherche Scientifique - UP1 - Université Panthéon-Sorbonne); Radu Vranceanu (THEMA - Théorie économique, modélisation et applications - UCP - Université de Cergy Pontoise - Université Paris-Seine - CNRS - Centre National de la Recherche Scientifique); Delphine Dubart (ESSEC Business School - Essec Business School) |
| Abstract: | This paper uses the test/retest data from the Holt and Laury (2002) experiment to provide estimates of the measurement error in this popular risk-aversion task. Maximum likelihood estimation suggests that the variance of the measurement error is approximately equal to the variance of the number of safe choices. Simulations confirm that the coefficient on the risk measure in univariate OLS regressions is approximately half of its true value. Unlike measurement error, the discrete transformation of continuous riskaversion is not a major issue. We discuss the merits of a number of different solutions: increasing the number of observations, IV and the ORIV method developed by Gillen et al. (2019). |
| Keywords: | ORIV,Experiments,Measurement error,Risk-aversion,Test/retest |
| Date: | 2019–09–17 |
| URL: | http://d.repec.org/n?u=RePEc:hal:wpaper:hal-02291224&r=all |
| By: | Gilbert V. Nartea (University of Canterbury); Hengyu Bai; Ji Wu |
| Abstract: | Motivated by recent studies documenting an equity premium associated with economic policy uncertainty (EPU), we test the hypothesis that the EPU premium is stronger (weaker) following periods of low (high) investor sentiment. We estimate stock sensitivity to an economic policy uncertainty (EPU) index and show that stocks in the Australian equities market in the highest uncertainty beta tertile underperform stocks in the lowest tertile, similar to US stocks. However, we find that this negative uncertainty premium remains significant only following periods of low investor sentiment as it disappears following periods of high sentiment. Our results complement the US evidence in that uncertainty averse investors are willing to pay high prices for stocks with positive uncertainty beta and require extra compensation to hold stocks with negative beta, but only in low sentiment periods. These results are consistent with strong (weak) intertemporal hedging demand for positive EPU beta stocks in low (high) sentiment periods. It is also consistent with limited (full) participation of pessimistic investors and investors with high aversion to uncertainty in low (high) sentiment periods. Our results suggest that betting against EPU as a trading strategy would be relatively more profitable when executed during low sentiment periods. |
| Keywords: | Economic policy uncertainty, Investor sentiment, Cross-sectional stock returns, Australian stock market |
| JEL: | G11 G12 C13 E20 |
| Date: | 2019–11–01 |
| URL: | http://d.repec.org/n?u=RePEc:cbt:econwp:19/14&r=all |
| By: | David Lagziel (BGU); Ehud Lehrer (Tel Aviv University) |
| Keywords: | screening; threshold strategies; optimal screening |
| JEL: | C70 D49 D81 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:bgu:wpaper:1904&r=all |
| By: | David Lagziel (BGU); Ehud Lehrer (Tel Aviv University) |
| Keywords: | screening problem; screening bias; threshold strategies |
| JEL: | C70 D49 D81 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:bgu:wpaper:1905&r=all |
| By: | Lionel de Boisdeffre (CES - Centre d'économie de la Sorbonne - CNRS - Centre National de la Recherche Scientifique - UP1 - Université Panthéon-Sorbonne, CATT - Centre d'Analyse Théorique et de Traitement des données économiques - UPPA - Université de Pau et des Pays de l'Adour) |
| Abstract: | The paper extends to asymmetric information Geanakoplos-Polemarchakis' (1986) existence theorem for incomplete financial markets with numeraire assets. It builds on a generic existence property of equilibria with real assets and differential information, and applies an asymptotic argument. It presents a two-period pure-exchange economy, with an ex ante uncertainty over the state of nature to be revealed at the second period. Asymmetric information is represented by private sets of states, that each agent is correctly informed to contain the realizable states. Consumers exchange commodities, on spot markets, and securities, on financial markets, which pay off in the same bundle of goods, conditionally on the state of nature to be revealed. Consumers have ordered smooth preferences over consumptions and a perfect foresight of future prices, along Radner (1972). With a different technique of proof, the paper also extends to numeraire assets De Boisdeffre's (2007) existence theorem for nominal assets, which characterizes existence by a no-arbitrage condition. |
| Keywords: | Sequential Equilibrium,Temporary Equilibrium,Perfect Foresight,Existence,Rational Expectations,Financial Markets,Asymmetric Information,Arbitrage |
| Date: | 2018–08 |
| URL: | http://d.repec.org/n?u=RePEc:hal:wpaper:hal-02141054&r=all |
| By: | Lionel de Boisdeffre (CES - Centre d'économie de la Sorbonne - CNRS - Centre National de la Recherche Scientifique - UP1 - Université Panthéon-Sorbonne, CATT - Centre d'Analyse Théorique et de Traitement des données économiques - UPPA - Université de Pau et des Pays de l'Adour) |
| Abstract: | The paper demonstrates the generic existence of general equilibria in incomplete markets with asymmetric information. The economy has two periods and an ex ante uncertainty over the state of nature to be revealed at the second period. Securities pay off in cash or commodities at the second period, conditionally on the state of nature to be revealed. They permit financial transfers across periods and states, which are insufficient to span all state contingent claims to value, whatever the spot price to prevail. Under smooth preference and the standard Radner (1972) perfect foresight assumptions, we show that equilibria exist, except for a closed set of measure zero of endowments and securities. This result extends Duffie-Shafer's (1985) in three ways. First, it allows for asymmetric information amongst agents. Second, it holds whenever the equilibrium price is given a fixed norm on each spot market. Third, assets need no longer pay off in commodities, but also in any mix of cash and goods. |
| Keywords: | Sequential Equilibrium,Temporary Equilibrium,Perfect Foresight,Existence,Rational Expectations,Financial Markets,Asymmetric Information,Arbitrage |
| Date: | 2018–08 |
| URL: | http://d.repec.org/n?u=RePEc:hal:wpaper:hal-02141055&r=all |
| By: | Hernán Bejarano (Centro de Investigación y Docencia Económicas (CIDE), Mexico); Brice Corgnet (Univ Lyon, CNRS, GATE UMR5824, 93 Chemin des Mouilles, F-69130, France; emlyon business school, 23 avenue guy de collongue, Ecully 69130); Joaquín Gómez-Miñambres (Lafayette College, Department of Economics, 730 High Street, Easton, PA 18042. Chapman University, Economic Science Institute. One University Drive, Orange, California 92866) |
| Abstract: | We extend Akerlof’s (1982) gift-exchange model to the case in which reference wages respond to changes in the work environment such as those related to unemployment benefits or workers’ productivity levels. Our model shows that these changes spur disagreements between workers and employers regarding the value of the reference wage. These disagreements tend to weaken the gift-exchange relationship thus reducing production levels and wages. We find support for these predictions in a controlled, yet realistic, workplace environment. Our work also sheds light on several stylized facts regarding employment relationships such as the increased intensity of labor conflicts when economic conditions are unstable. |
| Keywords: | Gift-exchange, incentives, self-serving biases, reference-dependent utility, laboratory experiments, labor conflicts |
| JEL: | C92 D23 M54 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:gat:wpaper:1929&r=all |