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on Utility Models and Prospect Theory |
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Issue of 2023‒11‒13
fourteen papers chosen by |
| By: | Marcin Pitera; Mikl\'os R\'asonyi |
| Abstract: | In this short paper we introduce a new class of performance measures based on certainty equivalents defined via scaled utility functions. We analyse their properties, show that the corresponding portfolio optimization problem is well-posed under generic conditions, and analyse the link between portfolio dynamics, benchmark process, and utility function choice in the long-run setting. |
| Date: | 2023–10 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:2310.02014&r=upt |
| By: | Pauline Vorjohann (Department of Economics, University of Exeter) |
| Abstract: | I derive a theoretical model of choice bracketing from two behavioral axioms in an expected utility framework. The first behavioral axiom establishes a direct link between narrow bracketing and correlation neglect. The second behavioral axiom identifies the reference point as the place where broad and narrow preferences are connected. In my model, the narrow bracketer is characterized by an inability to process changes from the reference point in different dimensions simultaneously. As a result, her tradeoffs between dimensions are distorted. While she disregards interactions between actual outcomes, she appreciates these interactions mistakenly with respect to the reference point. |
| Keywords: | narrow bracketing, correlation neglect, reference dependence, axiomatic foundation |
| JEL: | D3 D11 D91 |
| Date: | 2023–09–05 |
| URL: | http://d.repec.org/n?u=RePEc:exe:wpaper:2309&r=upt |
| By: | Dehez, Pierre (Université catholique de Louvain, LIDAM/CORE, Belgium) |
| Abstract: | We consider situations where players hit targets with known probabilities and are rewarded according to given rules. The division of the expected payoff resulting from their joint actions is studied in the context of transferable utility games, using the Shapley value as the allocation rule. |
| Keywords: | Probability games ; product games ; Shapley value |
| JEL: | C71 |
| Date: | 2023–05–31 |
| URL: | http://d.repec.org/n?u=RePEc:cor:louvco:2023017&r=upt |
| By: | Yichun Chi (Central University of Finance and Economics [Beijing]); Jiakun Zheng (Renmin University of China = Université Renmin de Chine, China Financial Policy Research Center - Renmin University of China = Université Renmin de Chine); Shengchao Zhuang (University of Nebraska–Lincoln - University of Nebraska System) |
| Abstract: | The existing literature in insurance economics has shown that narrow framing can explain why people buy too little insurance compared to what standard theory predicts. However, there is also ample evidence suggesting people sometimes buy too much insurance. In this paper, we assume S-shaped narrow framing, i.e., the local utility function for evaluating the net insurance payoff is convex in the loss domain but concave in the gain domain, and show that it can reconcile with both insurance puzzles simultaneously. Especially, we show the policyholder under S-shaped narrow framing is more likely to underinsure more negatively skewed risks of loss but to overinsure less negatively skewed risks of loss when only coinsurance is offered. We further characterize the optimal insurance scheme under S-shaped narrow framing while incentive compatibility is satisfied. It contains a straight deductible when the net insurance payoff is negative but partial insurance when the net insurance payoff is positive. |
| Date: | 2022–07 |
| URL: | http://d.repec.org/n?u=RePEc:hal:journl:hal-04227435&r=upt |
| By: | Ron S. Jarmin; John M. Abowd; Robert Ashmead; Ryan Cumings-Menon; Nathan Goldschlag; Michael B. Hawes; Sallie Ann Keller; Daniel Kifer; Philip Leclerc; Jerome P. Reiter; Rolando A. Rodr\'iguez; Ian Schmutte; Victoria A. Velkoff; Pavel Zhuravlev |
| Abstract: | The use of formal privacy to protect the confidentiality of responses in the 2020 Decennial Census of Population and Housing has triggered renewed interest and debate over how to measure the disclosure risks and societal benefits of the published data products. Following long-established precedent in economics and statistics, we argue that any proposal for quantifying disclosure risk should be based on pre-specified, objective criteria. Such criteria should be used to compare methodologies to identify those with the most desirable properties. We illustrate this approach, using simple desiderata, to evaluate the absolute disclosure risk framework, the counterfactual framework underlying differential privacy, and prior-to-posterior comparisons. We conclude that satisfying all the desiderata is impossible, but counterfactual comparisons satisfy the most while absolute disclosure risk satisfies the fewest. Furthermore, we explain that many of the criticisms levied against differential privacy would be levied against any technology that is not equivalent to direct, unrestricted access to confidential data. Thus, more research is needed, but in the near-term, the counterfactual approach appears best-suited for privacy-utility analysis. |
| Date: | 2023–10 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:2310.09398&r=upt |
| By: | Naoki Yoshihara (University of Massachusetts Amherst); Se Kwak (University of Massachusetts Amherst) |
| Abstract: | In contrast to Mandler’s (1999a; Theorem 6) generic determinacy of steady-state equilibria, we first show that any non-trivial steady-state equilibrium is indeterminate under a general overlapping generation economy with a fixed Leontief technique. We also check that this indeterminacy is generic. These results are obtained by explicitly introducing a general model of every generation’s utility function and individual optimization program to the overlapping generation economy, which also verifies that Mandler’s (1999a; section 6) claim on generic determinacy is invalid. We also argue the distinctiveness of our results in comparison with the standard literature, like Calvo (1978), of overlapping generation indeterminacy. |
| Keywords: | Sraffian indeterminacy, functional income distribution, general equilibrium framework |
| JEL: | B51 D33 D50 |
| Date: | 2023–05 |
| URL: | http://d.repec.org/n?u=RePEc:kch:wpaper:sdes-2023-2&r=upt |
| By: | Davide Fiaschi; Cristiano Ricci |
| Abstract: | This paper studies the spatial agglomeration of workers and income in a continuous space and time framework. Production and consumption are decided in local markets, characterized by the presence of spatial spillovers and amenities. Workers move across locations maximizing their instantaneous utility, subject to mobility costs. We prove the existence of a short-run Cournot-Nash equilibrium, and that, in the limit of an infinite number of workers, the sequence of short-run equilibria can be expressed by a partial differential equation. We characterize the conditions under which the long-run equilibrium displays spatial agglomerations. Social welfare is non-decreasing over time, and in the long-run equilibrium the expected utility of a representative worker is equalized over space and, therefore, the spatial allocation is efficient. The model can reproduce several stylized effects, such as the emergence of spatial agglomerations (cities) with different sizes and shapes; the dependence by history of spatial pattern of economic activities; a non-linear out-of-equilibrium dynamics; and finally, the phenomenon of metastability, where a long period of apparent stability in the spatial distribution is followed by a sharp transition to a new equilibrium. |
| Date: | 2023–10 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:2310.07883&r=upt |
| By: | Sanjit Dhami; Narges Hajimoladarvish; Pavan Mamidi |
| Abstract: | A group of decision makers simultaneously make contributions towards a green fund that reduces the future probability of a climate catastrophe. We derive the theoretical predictions of the effects on contributions arising from ‘behavioral parameters’ such as loss aversion and present-bias; ‘structural factors’ such as variation in the timing of uncertainty; the ‘demand for a commitment device’; and ‘institutional factors’ such as comparing voluntary contributions with mandatory tax financed contributions. We then run experiments to stringently, test our predictions. Loss aversion and present-bias reduce contributions; there is demand for the commitment technology; and voluntary contributions are higher relative to mandatory tax-financed contributions. |
| Keywords: | climate risk abatement, loss aversion, present-biased preferences, voluntary versus mandatory contribution mechanisms, commitment technology |
| JEL: | C92 D01 D02 D91 |
| Date: | 2023 |
| URL: | http://d.repec.org/n?u=RePEc:ces:ceswps:_10678&r=upt |
| By: | Dirk Bergemann (Yale University); Tan Gan (Yale University); Yingkai Li (Yale University) |
| Abstract: | We study a sender-receiver model where the receiver can commit to a decision rule before the sender determines the information policy. The decision rule can depend on the signal structure and the signal realization that the sender adopts. This framework captures applications where a decision-maker (the receiver) solicit advice from an interested party (sender). In these applications, the receiver faces uncertainty regarding the senderÕs preferences and the set of feasible signal structures. Consequently, we adopt a unified robust analysis framework that includes max-min utility, min-max regret, and min-max approximation ratio as special cases. We show that it is optimal for the receiver to sacrifice ex-post optimality to perfectly align the senderÕs incentive. The optimal decision rule is a quota rule, i.e., the decision rule maximizes the receiverÕs ex-ante payoff subject to the constraint that the marginal distribution over actions adheres to a consistent quota, regardless of the senderÕs chosen signal structure. |
| Date: | 2023–10–19 |
| URL: | http://d.repec.org/n?u=RePEc:cwl:cwldpp:2372&r=upt |
| By: | Selim, Tarek; Mabughi, Nyiwul |
| Abstract: | An aggregate social welfare function is theoretically proposed and empirically applied. The proposed social welfare function obeys monotonicity, symmetry, continuity, independence, common scale, and the Piguo-Dalton equity principle. It is built on a cardinal multi-dimensional framework. Critical socio-economic factors in the social welfare formulation involve Atkinson-adjusted per capita income, poverty eradication, social entitlements for clean water access and health care, education attainment, income inequality, gender equity, and life expectancy. Applying the social welfare formulation to 79 developing countries, data sensitivity charts reveal important welfare effects: (i) marginal utility of income is 0.532, (ii) an increasing welfare trigger effect is induced when income inequality (Gini index) falls below the threshold level of 0.24, (iii) social welfare becomes invariant to inequality when Gini surpasses the threshold level of 0.39, (iv) welfare variance rises linearly with clean water access, yet increases rapidly beyond 57% population access, (v) gender is highly elastic to welfare at an elasticity of 4.34, (vi) welfare is sensitive to education more than gender and health care, but less than water access and life expectancy, (vii) welfare is most sensitive to life expectancy when compared to any other factor, (viii) welfare falls when more expenditures are needed to eradicate poverty, and each $1m increase in required expenditures to eradicate poverty leads to a welfare reduction of 0.8% (PPP adjusted), and finally, (ix) welfare variance decreases with more intensive poverty. Levels of country development are then clustered around three-level categories of social welfare. |
| Keywords: | social welfare, utility, equity, empirical, socio-economic, developing, quality of life, economic growth |
| JEL: | C82 D6 I3 O2 |
| Date: | 2022–09–10 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:118615&r=upt |
| By: | Abhishek Subramanian; Parthajit Kayal ((Corresponding Author)Assistant Professor, Madras School of Economics) |
| Abstract: | This paper studies the volatility-managed portfolios of Moreira and Muir (2017) and analyses whether the volatility-management trading strategy provides a large utility gain for mean-variance investors for the CBOE Volatility Index (VIX) across multiple equity factors. Upon direct comparison, we document that the volatility-managed scaled factor earns higher returns compared to its original unscaled counterpart. The results from our in-sample spanning regression supports the above findings indicating that volatility-managed factors outperform the original factor by extending the mean-variance frontier even after controlling for additional factors. This result is significant in particular with the volatility-managed momentum factor. The ex-post optimization parameters also suggest a positive Sharpe ratio and CER percent (Certainty Equivalent Return) across equity factors. |
| Keywords: | Volatility-managed portfolios, Volatility-management, Momentum |
| JEL: | G10 G11 G12 |
| URL: | http://d.repec.org/n?u=RePEc:mad:wpaper:2023-242&r=upt |
| By: | Cardullo, Gabriele (University of Genova); Sechi, Agnese (University of Genoa) |
| Abstract: | We study the effects on employment, costs of living, and income inequality of local shocks in the housing market or in the productivity of a tradable good. We construct a two-region search and matching model in which housing is considered a necessity good. Mobility of labor implies that any change in one region propagates into the other. The model is analytically tractable and provides some intuitive comparative statics results. We then calibrate the model on the basis of German data. Our simulations indicate that both types of shock produce limited employment gains but have a significant impact on housing prices and real income inequality: poorer, unemployed workers experience a larger increase in their cost of living index. This depends on the assumption of a non-homothetic utility function that generates a specific nominal wage to housing price positive relationship, partially safeguarding employed individuals against the rising cost of living. |
| Keywords: | local labor markets, income inequality, costs of living, housing expenditures, housing prices |
| JEL: | R23 R21 R31 J31 J61 J64 D31 |
| Date: | 2023–10 |
| URL: | http://d.repec.org/n?u=RePEc:iza:izadps:dp16533&r=upt |
| By: | Boeckx, Jef (National Bank of Belgium); Iania, Leonardo (Université catholique de Louvain, LIDAM/LFIN, Belgium); Wauters, Joris (National Bank of Belgium) |
| Abstract: | We propose a new model to decompose inflation swaps into genuine inflation expectations and risk premiums. We develop a no-arbitrage term structure model with stochastic endpoints, separating macroeconomic variables into transitory parts and long-run, economically-grounded, determinants, such as the equilibrium real interest rate and the inflation target. Our estimations deliver new insights as to how macroeconomic variables affect market-based inflation expectation measures. |
| Date: | 2023–06–21 |
| URL: | http://d.repec.org/n?u=RePEc:ajf:louvlf:2023003&r=upt |
| By: | Francesca Barigozzi (University of Bologna/Università di Bologna); Helmuth Cremer (TSE-R - Toulouse School of Economics - UT Capitole - Université Toulouse Capitole - UT - Université de Toulouse - EHESS - École des hautes études en sciences sociales - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement); Jean-Marie Lozachmeur (TSE-R - Toulouse School of Economics - UT Capitole - Université Toulouse Capitole - UT - Université de Toulouse - EHESS - École des hautes études en sciences sociales - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement) |
| Abstract: | We study the design of pension benefits for male and female workers. Women live longer than men but have a lower wage. Individuals can be single or live in couples who pool their incomes. Social welfare is utilitarian but an increasing concave transformation of individuals' lifetime utilities introduces the concern for redistribution across individuals with different lifespans. We derive the optimal direction of redistribution and show how it is affected by a gender neutrality rule. With singles only, a simple utilitarian solution implies redistribution from males to females. When the transformation is sufficiently concave redistribution may or may not be reversed. With couples only, the ranking of gender retirement ages is always reversed when the transformation is sufficiently concave. Under gender neutrality pension schemes must be self-selecting. Gender neutrality implies distortions of retirement decisions, limits redistribution and, negatively affects the group towards which redistribution is targeted. With couples, a first best that implies a lower retirement age for females can be implemented by a gender-neutral system. Otherwise, gender neutrality implies equal retirement ages and restricts the possibility to compensate the shorter-lived individuals. Calibrated simulations show that when singles and couples coexist, gender neutrality substantially limits redistribution in favor of single women and fully prevents redistribution in favor of male spouses. |
| Keywords: | Gender wage gap, Gender gap in longevity, Retirement systems |
| Date: | 2023–05 |
| URL: | http://d.repec.org/n?u=RePEc:hal:journl:hal-04224569&r=upt |