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on Utility Models and Prospect Theory |
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Issue of 2023‒01‒23
fifteen papers chosen by |
| By: | Christoph Kuzmics; Brian W. Rogers; Xiannong Zhang |
| Abstract: | The 1961 Ellsberg paradox is typically seen as an empirical challenge to the subjective expected utility framework. Experiments based on Ellsberg's design have spawned a variety of new approaches, culminating in a new paradigm represented by, now classical, models of ambiguity aversion. We design and implement a decision-theoretic lab experiment that is extremely close to the original Ellsberg design and in which, empirically, subjects make choices very similar to those in the Ellsberg experiments. In our environment, however, these choices cannot be rationalized by any of the classical models of ambiguity aversion. |
| Date: | 2022–12 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:2212.03603&r=upt |
| By: | Mohajan, Devajit; Mohajan, Haradhan |
| Abstract: | In this paper, method of Lagrange multipliers is used to investigate the utility function; subject to two constraints: budget constraint, and coupon constraint, and to verify that the utility is maximized. An economic model of an emerging firm has been developed here by considering four commodity variables. In the study, determinant of the 6×6 bordered Hessian matrix is operated to verify the utility maximization. Two Lagrangian multipliers are used here, as devices of optimization procedures, during the mathematical calculation. In this article, an attempt has been taken to achieve optimal result by the application of scientific method of optimization. |
| Keywords: | Bordered Hessian, commodity, Lagrange multipliers, utility maximization |
| JEL: | C2 C3 C31 C5 C53 C61 C67 |
| Date: | 2022–09–18 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:115838&r=upt |
| By: | Gamp, Tobias (HU Berlin); Krähmer, Daniel (University of Bonn) |
| Abstract: | We study the implications of biased consumer beliefs for search market outcomes in the seminal framework due to Diamond (1971). Biased consumers base their search strategy on a belief function which specifies for any (true) distribution of utility offers in the market a possibly incorrect distribution of utility offers. If biased consumers overestimate the best offer in the market, a novel type of equilibrium may emerge in which firms make exceptionally favourable offers in order to meet biased consumers' unreasonable high expectations which then become partially self-fulfilling. Consequently, the presence of biased consumers may improve the welfare of all consumers. |
| Keywords: | consumer search; bounded rationality; cursed beliefs; |
| JEL: | D18 D21 D43 D83 |
| Date: | 2022–12–30 |
| URL: | http://d.repec.org/n?u=RePEc:rco:dpaper:365&r=upt |
| By: | Kochov, Asen (University of Rochester); Song, Yangwei (HU Berlin) |
| Abstract: | Recursive preferences have found widespread application in representative-agent asset-pricing models and general equilibrium. A majority of these applications exploit two decision-theoretic properties not shared by the standard model of intertemporal choice: (i) agents care about the intertemporal distribution of risk and (ii) rates of time preference, rather than being exogenously fixed, may vary with the level of consumption. We investigate what these features imply in the context of a repeated strategic interaction. Specifically, we identify novel opportunities for the players to manage risk and trade intertemporally, and characterize when such opportunities lead to an expansion of the feasible set of payoffs. Sharp implications for equilibrium behavior and the folk theorem are also deduced. |
| Keywords: | recursive utility; repeated games; correlation aversion; endogenous discounting; intertemporal trade; intertemporal hedging; |
| Date: | 2022–12–28 |
| URL: | http://d.repec.org/n?u=RePEc:rco:dpaper:361&r=upt |
| By: | Dohui Woo |
| Abstract: | Experts with different abilities of information acquisition who receive multiple pieces of signals over time can choose the timing of recommendation and whether to be truthful in a later period, when a recommendation is made in an earlier period. Giving inconsistent recommendations may be seen as a sign of a poor information acquisition ability, but it can also work as a "safety net" that prevents the worst reputation. This study uses a simple binary-ability framework to capture this aspect and proposes equilibriums where all information is delivered truthfully on the path. I examine when such an equilibrium exists, and compare such equilibriums with those where only partial information is delivered; it is found that the former brings higher expected payoffs to the expert than the latter under a certain range of parameters when the utility function is strictly convex in the reputation. |
| Keywords: | truth-telling, reputation concerns, cheap talks |
| JEL: | D72 L14 |
| Date: | 2022–12 |
| URL: | http://d.repec.org/n?u=RePEc:kyo:wpaper:1089&r=upt |
| By: | Guohui Guan; Zongxia Liang; Yilun Song |
| Abstract: | This paper investigates a Stackelberg game between an insurer and a reinsurer under the $\alpha$-maxmin mean-variance criterion. The insurer can purchase per-loss reinsurance from the reinsurer. With the insurer's feedback reinsurance strategy, the reinsurer optimizes the reinsurance premium in the Stackelberg game. The financial market consists of cash and stock with Heston's stochastic volatility. Both the insurer and reinsurer maximize their respective $\alpha$-maxmin mean-variance preferences in the market. The criterion is time-inconsistent and we derive the equilibrium strategies by the extended Hamilton-Jacobi-Bellman equations. Similar to the non-robust case in Li and Young (2022), excess-of-loss reinsurance is the optimal form of reinsurance strategy for the insurer. The equilibrium investment strategy is determined by a system of Riccati differential equations. Besides, the equations determining the equilibrium reinsurance strategy and reinsurance premium rate are given semi-explicitly, which is simplified to an algebraic equation in a specific example. Numerical examples illustrate that the game between the insurer and reinsurer makes the insurance more radical when the agents become more ambiguity aversion or risk aversion. Furthermore, the level of ambiguity, ambiguity attitude, and risk attitude of the insurer (reinsurer) have similar effects on the equilibrium reinsurance strategy, reinsurance premium, and investment strategy. |
| Date: | 2022–12 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:2212.14327&r=upt |
| By: | Bartosz Maćkowiak (CEPR - Center for Economic Policy Research - CEPR); Filip Matějka (CEPR - Center for Economic Policy Research - CEPR); Mirko Wiederholt (ECON - Département d'économie (Sciences Po) - Sciences Po - Sciences Po - CNRS - Centre National de la Recherche Scientifique, CEPR - Center for Economic Policy Research - CEPR) |
| Abstract: | We review the recent literature on rational inattention, identify the main theoretical mechanisms, and explain how it helps us understand a variety of phenomena across fields of economics. The theory of rational inattention assumes that agents cannot process all available information, but they can choose which exact pieces of information to attend to. Several important results in economics have been built around imperfect information. Nowadays, many more forms of information than ever before are available due to new technologies, and yet we are able to digest little of it. Which form of imperfect information we possess and act upon is thus largely determined by which information we choose to pay attention to. These choices are driven by current economic conditions and imply behavior that features numerous empirically supported departures from standard models. Combining these insights about human limitations with the optimizing approach of neoclassical economics yields a new, generally applicable model. |
| Date: | 2022 |
| URL: | http://d.repec.org/n?u=RePEc:hal:journl:hal-03878692&r=upt |
| By: | Frederick van der Ploeg (Department of Economics, University of Oxford); Johannes Emmerling (RFF-CMCC European Institute on Economics and the Environment, Centro Euro-Mediterraneo sui Cambiamenti Climatici); Ben Groom (Department of Economics, University of Exeter) |
| Abstract: | An analytical formula is presented for the Social Cost of Carbon (SCC) taking account of intragenerational income inequality, in addition to intergenerational income inequality, macro-economic uncertainty and rare disasters to economic growth. The social discount rate is adjusted for intra- and intergenerational inequality aversion and risk aversion. If growth reduces intragenerational inequality, the SCC is lower than with inequality-neutral growth, especially if intra- and intergenerational inequality aversion are high. Calibrated to the observed interest rate and risk premium, the SCC in 2020 is $125/tCO2 without considering intragenerational inequality, $81/tCO2 if intragenerational inequality decreases over time, as a continuation of historical trends suggests (based on Shared Socioeconomic Pathway (SSP) 2), and $213/tCO2 if inequality increases (SSP4). Intragenerational inequality has a similar order of effect on the SSC as accounting for rare macroeconomic disasters. |
| Keywords: | social discount rate, social cost of carbon, intra- and intergenerational inequality aversion, risk aversion, inequality, growth, uncertainty |
| JEL: | C61 D31 D62 D81 G12 H23 Q54 |
| Date: | 2023–01–05 |
| URL: | http://d.repec.org/n?u=RePEc:exe:wpaper:2301&r=upt |
| By: | Bartosz Maćkowiak (CEPR - Center for Economic Policy Research - CEPR); Mirko Wiederholt (ECON - Département d'économie (Sciences Po) - Sciences Po - Sciences Po - CNRS - Centre National de la Recherche Scientifique, CEPR - Center for Economic Policy Research - CEPR, LMU - Ludwig Maximilian University [Munich]) |
| Abstract: | We solve a real business cycle model with rational inattention (an RI-RBC model). In the standard model, anticipated fluctuations in productivity fail to cause business cycle comovement. In response to news about higher future productivity, consumption rises but employment and investment fall. Introducing rational inattention helps produce comovement. Agents choose an optimal signal about the state of the economy. The optimal signal turns out to confound current with expected future productivity. Labor and investment demand rise after a news shock, causing an output expansion. Rational inattention also improves the propagation of a standard productivity shock, by inducing persistence. |
| Keywords: | Information choice, Rational inattention, Real business cycle model, News shocks, Productivity shocks |
| Date: | 2021–12 |
| URL: | http://d.repec.org/n?u=RePEc:hal:spmain:hal-03878704&r=upt |
| By: | Song, Yangwei (HU Berlin) |
| Abstract: | This paper provides a micro-foundation for approximate incentive compatibility using ambiguity aversion. In particular, we propose a novel notion of approximate interim incentive compatibility, approximate local incentive compatibility, and establish an equivalence between approximate local incentive compatibility in a Bayesian environment and exact interim incentive compatibility in the presence of a small degree of ambiguity. We then apply our result to the implementation of efficient allocations. In particular, we identify three economic settings—including ones in which approximately efficient allocations are implementable, ones in which agents are informationally small, and large double auctions—in which efficient allocations are approximately locally implementable when agents are Bayesian. Applying our result to those settings, we conclude that efficient allocations are exactly implementable when agents perceive a small degree of ambiguity. |
| Keywords: | approximate local incentive compatibility; ambiguity aversion; efficiency; informational size; modified VCG mechanism; double auction; |
| Date: | 2022–12–28 |
| URL: | http://d.repec.org/n?u=RePEc:rco:dpaper:362&r=upt |
| By: | Fehr, Dietmar (University of Heidelberg and CESifo); Kübler, Dorothea (WZB Berlin, TU Berlin and CESifo) |
| Abstract: | We study the endowment effect and expectation-based reference points in the field leveraging the setup of the Socio-Economic Panel. Households receive a small item for taking part in the panel, and we randomly assign respondents either a towel or a notebook, which they can exchange at the end of the interview. We observe a trading rate of 32 percent, consistent with an endowment effect, but no relationship with loss aversion. Manipulating expectations of the exchange opportunity, we find no support for expectation-based reference points. However, trading predicts residential mobility and is related to stock-market participation, i.e., economic decisions that entail parting with existing resources. |
| Keywords: | exchange asymmetry; reference-dependent preferences; loss aversion; field experiment; SOEP; |
| JEL: | C93 D84 D91 |
| Date: | 2022–12–22 |
| URL: | http://d.repec.org/n?u=RePEc:rco:dpaper:353&r=upt |
| By: | Chatzinikolaou, Dimos (Democritus University of Thrace, Department of Economics); Vlados, Charis (Democritus University of Thrace, Department of Economics) |
| Abstract: | The present study aims to examine and summarize some of the fundamental contributions of evolutionary economic thought. It begins by presenting some of the central traits of the main theoretical antecedents of evolutionary economics, from its foundation to date, identifying the conceptual prerequisites for a specific analysis to fit into its framework and methodology. Next, the presentation focuses on relevant recent analytical contributions and the evolutionary theory of the firm. Finally, it presents the Stra.Tech.Man approach that analytically synthesizes the spheres of business strategy, technology, and management to interpret the phenomena of adaptation and innovation of contemporary organizations through an evolutionary perspective. In this context, the Stra.Tech.Man approach is an alternative basis for reframing business dynamics through an evolutionary perspective. In particular, this paper presents some central findings of recent studies in the less developed Greek region of Eastern Macedonia and Thrace, demonstrating that this evolutionary approach has analytical value and interpretive utility. |
| JEL: | B50 L19 |
| Date: | 2022–12–05 |
| URL: | http://d.repec.org/n?u=RePEc:ris:duthrp:2022_005&r=upt |
| By: | Pauline Corblet (ECON - Département d'économie (Sciences Po) - Sciences Po - Sciences Po - CNRS - Centre National de la Recherche Scientifique) |
| Abstract: | This thesis' main objects of interest are the wage returns to education and experience on labor markets, and the earning inequalitiesthese returns generate. It seeks to understand these returns from a matching perspective, by investigating determinants of relationshipformation between workers and firms. The first chapter documents flattening wage returns to experience between higher educationgraduates entering the French labor market in 1998 and 2010. Differences in average wage growth are decomposed by occupation intoan extensive and intensive margin. Two potential mechanisms behind the wage growth slow down are explored: access to managerialpositions and impact of initial match quality. I find access to managerial positions is more infrequent for recent cohorts. I also find thatinitial match quality has not worsened between the 1998 and 2010 cohorts, but its impact on future wages has become more enduring.The second chapter studies the decrease in the education wage premium on the Portuguese labor market between 1987 and 2017.I build a model of one-to-many matching with multidimensional types in which several workers are employed by a single firm. I structurallyestimate the model on matched employer-employee data. Counterfactual exercises suggest that both changes in worker preferences andthe increasing relative productivity of high school graduates over non-graduates act as a mitigating force on the decreasing high schoolwage premium, but do not fully compensate for high school graduates' rise in relative supply. In the third chapter, co-authored with JeremyFox and Alfred Galichon, we explore how expectations on future returns influence matching decisions. We introduce a model of dynamicmatching with transferable utility. We explore aggregate dynamics and show that a stationary equilibrium exists. We propose twoalgorithms to compute a stationary equilibrium and adapt both methods for estimation. |
| Abstract: | Cette thèse s'intéresse aux rendements salariaux de l'éducation et de l'expérience, ainsi qu'aux inégalités de revenus qui en découlent.Elle étudie ces rendements dans une perspective d'appariement, à travers les déterminants de la formation des relations entre lesindividus et entreprises sur le marché de l'emploi. Le premier chapitre documente l'aplatissement des rendements de l'expérience desdiplômés du supérieur en 1998 et 2010. Deux mécanismes à l'origine du ralentissement de la croissance des salaires sont explorés :l'accès aux postes d'encadrement et la qualité de l'appariement initial. Il apparaît que l'accès aux postes de direction est plus rare pourles cohortes récentes, tandis que la qualité de l'appariement initial ne s'est pas détériorée entre les cohortes 1998 et 2010, mais sonimpact sur les salaires futurs des jeunes cohortes s'est renforcé. Le deuxième chapitre étudie la diminution des rendements de l'éducationsur le marché du travail portugais entre 1987 et 2017. Je construis un modèle d'appariement avec des types multidimensionnels danslequel plusieurs employés sont embauchés par une seule entreprise. J'estime structurellement le modèle et conduis une série decontrefactuels, qui montrent que les préférences des individus et l'augmentation de la productivité relative des diplômés atténuent ladiminution des rendements de l'éducation, mais ne compensent pas entièrement les effets de l'expansion éducative des années 1990 et2000. Dans le troisième chapitre, co-écrit avec Jeremy Fox et Alfred Galichon, nous explorons comment les attentes des individus surleurs rendements futurs influencent les décisions d'appariement. Nous introduisons un modèle d'appariement dynamique à utilitétransférable. Nous explorons l'équilibre général et montrons qu'un équilibre stationnaire existe. Nous proposons deux algorithmes decalcul de l'équilibre stationnaire et adaptons les deux méthodes pour l'estimation. |
| Keywords: | Returns to education, Returns to experience, Matching models, Structural econometrics, Rendements de l'éducation, Rendements de l'expérience, Modèles d'appariement, Econométrie structurelle |
| Date: | 2022–05–18 |
| URL: | http://d.repec.org/n?u=RePEc:hal:spmain:tel-03852824&r=upt |
| By: | Michele Fioretti (ECON - Département d'économie (Sciences Po) - Sciences Po - Sciences Po - CNRS - Centre National de la Recherche Scientifique); Alexander Vostroknutov (Maastricht University [Maastricht]); Giorgio Coricelli (USC - University of Southern California) |
| Abstract: | In a stock market experiment, we examine how regret avoidance influences the decision to sell an asset while its price changes over time. Participants know beforehand whether they will observe the future prices after they sell the asset or not. Without future prices, participants are affected only by regret about previously observed high prices (past regret), but when future prices are available, they also avoid regret about expected after-sale high prices (future regret). Moreover, as the relative sizes of past and future regret change, participants dynamically switch between them. This demonstrates how multiple reference points dynamically influence sales. (JEL C91, G12, G41) |
| Keywords: | stock market behavior, behavioral finance, regret avoidance, dynamic regret, dynamic discrete choice, structural models, experiments, multiple reference points |
| Date: | 2022–02–01 |
| URL: | http://d.repec.org/n?u=RePEc:hal:spmain:hal-03562318&r=upt |
| By: | Giovanni Dosi |
| Abstract: | Even the most rudimentary training from Economics 101 starts with demand curves going down and supply curves going up. They are so 'natural' that they sound even more obvious than the Euclidian postulates in mathematics. But are they? What do they actually mean? Start with ''demand curves''. Are they hypothetical 'psychological constructs' on individual preferences? Propositions on aggregation over them? Reduced forms of actual dynamic proposition of time profiles of prices and demanded quantities? Similar considerations apply to ''supply curves'' The point here, drawing upon the chapter by Kirman and Dosi, in Dosi (2023), is that the forest of demand and supply curves is basically there to populate the analysis with double axiomatic notions of equilibria, both 'in the head' of individual agents, and in environments in which they operate. And the issue is even thornier when dealing with ''curves'' going up and down in macroeconomic contexts where one is basically talking of a mystical construction of a meta meta meta loci of equilibrium - first, in the head of each agent, next, in each market (for goods, for savings, etc.), finally in the overall economy. Supply and demand ''curves'', I am arguing, are one of the three major methodological stumbling blocks on the way of progress in economics - the others being 'utility functions' and 'production functions' -. There is an alternative: represent markets and industries how they actually works, and model them both via fully fledged Agent Based Models and via lower dimensional dynamical systems. |
| Keywords: | Demand and supply curves; aggregation; costs and prices; dynamical systems. |
| Date: | 2023–01–07 |
| URL: | http://d.repec.org/n?u=RePEc:ssa:lemwps:2023/02&r=upt |