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on Utility Models and Prospect Theory |
| By: | Masaaki Fujii (Quantitative Finance Course, Graduate School of Economics, The University of Tokyo.); Masashi Sekine (Quantitative Finance Course, Graduate School of Economics, The University of Tokyo.) |
| Abstract: | In this paper, using the mean-field game theory, we study a problem of equilibrium price formation among many investors with exponential utility in the presence of liabilities unspanned by the security prices. The investors are heterogeneous in their initial wealth, risk-averseness parameter, as well as stochastic liability at the terminal time. We characterize the equilibrium risk-premium process of the risky stocks in terms of the solution to a novel mean-field backward stochastic differential equation (BSDE), whose driver has quadratic growth both in the stochastic integrands and in their conditional expectations. We prove the existence of a solution to the mean-field BSDE under several conditions and show that the resultant risk-premium process actually clears the market in the large population limit. |
| Date: | 2023–10 |
| URL: | https://d.repec.org/n?u=RePEc:cfi:fseres:cf594 |
| By: | Bhattacharya, D.; Oparina, E.; Xu, Q. |
| Abstract: | We analyze demand settings where heterogeneous consumers maximize utility for product attributes subject to a nonlinear budget constraint. We develop nonparametric methods for welfare-analysis of interventions that change the constraint. Two new findings are Roy’s identity for smooth, nonlinear budgets, which yields a Partial Differential Equation system, and a Slutsky-like symmetry condition for demand. Under scalar unobserved heterogeneity and single-crossing preferences, the coefficient functions in the PDEs are nonparametrically identified, and under symmetry, lead to path-independent, money-metric welfare. We illustrate our methods with welfare evaluation of a hypothetical change in relationship between property rent and neighborhood school-quality using British microdata. |
| Keywords: | Hedonic Model, Nonlinear Budget, Nonparametric Identification, Welfare, Compensating/Equivalent Variation, Partial Differential Equation, Slutsky Symmetry, Roy’s Identity, Path Independence |
| JEL: | C14 I30 H23 |
| Date: | 2024–12–09 |
| URL: | https://d.repec.org/n?u=RePEc:cam:camdae:2468 |
| By: | Thomas Aronsson (University of Umea, Sweden and University of Graz, Austria); Olof Johansson-Stenman (University of Gothenburg, Sweden) |
| Abstract: | A substantial body of empirical and theoretical research suggests that individuals care about, and derive instrumental benefits from, their rank in society. This paper extends the Mirrleesian model of optimal income taxation to a framework where individuals derive utility from their perceived ability rank. Such concerns generate externalities that tend to increase the optimal marginal tax rates for both corrective and redistributive reasons. While empirical evidence on the magnitude of these concerns is limited, their potential impact on optimal income taxation could be substantial, with top marginal income tax rates potentially exceeding 90%. |
| Keywords: | Redistributive taxation, ability, ordinal comparisons, externalities. |
| JEL: | D62 D82 D90 H21 H23 |
| Date: | 2024–12 |
| URL: | https://d.repec.org/n?u=RePEc:grz:wpaper:2024-21 |
| By: | Junlong Feng; Sokbae (Simon) Lee |
| Abstract: | We introduce a novel framework for individual-level welfare analysis. It builds on a parametric model for continuous demand with a quasilinear utility function, allowing for heterogeneous coefficients and unobserved individual-good-level preference shocks. We obtain bounds on the individual-level consumer welfare loss at any confidence level due to a hypothetical price increase, solving a scalable optimization problem constrained by a novel confidence set under an independence restriction. This confidence set is computationally simple and robust to weak instruments, nonlinearity, and partial identification. The validity of the confidence set is guaranteed by our new results on the joint limiting distribution of the independence test by Chatterjee (2021). These results together with the confidence set may have applications beyond welfare analysis. Monte Carlo simulations and two empirical applications on gasoline and food demand demonstrate the effectiveness of our method. |
| Date: | 2024–12–13 |
| URL: | https://d.repec.org/n?u=RePEc:azt:cemmap:25/24 |
| By: | Charles F. Manski |
| Abstract: | The relationship of policy choice by majority voting and by maximization of utilitarian welfare has long been discussed. I consider choice between a status quo and a proposed policy when persons have interpersonally comparable cardinal utilities taking values in a bounded interval, voting is compulsory, and each person votes for a policy that maximizes utility. I show that knowledge of the attained status quo welfare and the voting outcome yields an informative bound on welfare with the proposed policy. The bound contains the value of status quo welfare, so the better utilitarian policy is not known. The minimax-regret decision and certain Bayes decisions choose the proposed policy if its vote share exceeds the known value of status quo welfare. This procedure differs from majority rule, which chooses the proposed policy if its vote share exceeds 1/2. |
| Date: | 2024–12 |
| URL: | https://d.repec.org/n?u=RePEc:arx:papers:2412.18714 |
| By: | Dorian Jullien (CES - Centre d'économie de la Sorbonne - UP1 - Université Paris 1 Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique); Alexandre Truc (GREDEG - Groupe de Recherche en Droit, Economie et Gestion - UNS - Université Nice Sophia Antipolis (1965 - 2019) - CNRS - Centre National de la Recherche Scientifique - UniCA - Université Côte d'Azur) |
| Abstract: | Existing histories of behavioral and experimental economics (BE-XP) are mostly focused on the intellectual and institutional developments of these approaches in the United States of America -and to a lesser extent in Germany. While a seminal contribution to these approaches was produced in the early 1950s in France by Maurice Allais, the literature is rather silent on how BE-XP developed subsequently in France. We propose to fill this gap by comparing the history of BE-XP in France to international trends previously identified in the literature. We show that after an ambivalent influence of the work of Allais ( 1953) on BE-XP in France during the 1980s, that influence rapidly faded. BE-XP in France then largely follows international trends. We nevertheless identify some heterogeneity across the French territory and the development of at least two national specificities on the measurement of utility and the modeling of social preferences. |
| Keywords: | Scientometrics, Behavioral economics, Experimental economics, History of economics |
| Date: | 2024–11–01 |
| URL: | https://d.repec.org/n?u=RePEc:hal:cesptp:halshs-04810987 |
| By: | Gordon Anderson; Oliver Linton |
| Abstract: | For the last 60 years, Expected Utility Theory, Rational Expectations, and a tacit presumption of symmetry in outcome distributions have been the micro and macro foundations of decision-making paradigms which seek optimum risk tempered expected outcomes. The Sharpe ratio, in its use in evaluating portfolio performance and its focus on average returns, epitomizes the practice. When outcome distributions are symmetric unimodal, expected and most likely outcomes coincide, and choices can be construed as being made on the basis of either. However, when outcome distributions are asymmetric or multi-modal, expected outcomes are not the most likely and, in contradiction of rational expectations assumptions, expectations-based choice will engender systematic information laden surprises raising questions as to whether choice should be most likely or expected outcome based. Here, the impact of switching to a Most Likely view of the world is examined and “Most Likely†focused versions of the Sharpe and Sortino Ratios are introduced. Simple exercises performed on commonly used benchmark portfolio and stock returns data demonstrate that portfolio orderings change substantially when the focus is switched to most likely outcomes, all of which gives some pause for thought. |
| Keywords: | Portfolio choice, expected outcomes, most likely outcomes, Sharpe Ratio, Sortino Ratio |
| JEL: | G11 C14 C18 |
| Date: | 2024–12–19 |
| URL: | https://d.repec.org/n?u=RePEc:tor:tecipa:tecipa-787 |
| By: | Marc Fleurbaey (PSE - Paris School of Economics - UP1 - Université Paris 1 Panthéon-Sorbonne - ENS-PSL - École normale supérieure - Paris - PSL - Université Paris Sciences et Lettres - EHESS - École des hautes études en sciences sociales - ENPC - École nationale des ponts et chaussées - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement, PJSE - Paris Jourdan Sciences Economiques - UP1 - Université Paris 1 Panthéon-Sorbonne - ENS-PSL - École normale supérieure - Paris - PSL - Université Paris Sciences et Lettres - EHESS - École des hautes études en sciences sociales - ENPC - École nationale des ponts et chaussées - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement); Stéphane Zuber (PSE - Paris School of Economics - UP1 - Université Paris 1 Panthéon-Sorbonne - ENS-PSL - École normale supérieure - Paris - PSL - Université Paris Sciences et Lettres - EHESS - École des hautes études en sciences sociales - ENPC - École nationale des ponts et chaussées - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement, CES - Centre d'économie de la Sorbonne - UP1 - Université Paris 1 Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique) |
| Abstract: | Suppose that, for whatever reason, it is decided that inequalities within countries are more offensive than inequalities between countries, and that inequalities between populations living together are more offensive than inequalities between generations living in different times. Can a social welfare function express that preference? We show that it is actually difficult to incorporate such a localist preference into a social welfare function, except in a limited way (i.e., from a situation of specific similarity between countries). We also show that in order to obtain such preferences, the relative size of inequality aversion within and between countries may be counter-intuitive in some relevant cases, in the sense that a greater inequality aversion may happen to be required across countries than within countries. This research highlights new social welfare functions that aggregate the outcomes of evaluations over pairs of agents. |
| Keywords: | Inequality aversion, Transfer principle, Within-country preference |
| Date: | 2024–11 |
| URL: | https://d.repec.org/n?u=RePEc:hal:cesptp:halshs-04828805 |
| By: | Ippei Fujiwara (Keio University); Yasuo Hirose (Keio University) |
| Abstract: | This paper establishes the connection of exchange rates to macroeconomic fundamentals by estimating a small open-economy model for Canada. The model incorporates an endogenous interest rate spread on foreign bond holdings, enabling the modified uncovered interest rate parity (UIP) condition to exhibit a negative relationship between expected exchange rate depreciation and interest rate differentials, as observed in the data. Given the model's susceptibility to equilibrium indeterminacy, we estimate it using Bayesian methods that allow for both determinacy and indeterminacy of equilibrium. The results reveal that preference shocks to the household utility function are the primary drivers of exchange rate fluctuations, highlighting the connection between exchange rates and macroeconomic fundamentals. We further demonstrate that both allowing for indeterminacy and selecting a specific equilibrium representation from the data are essential for achieving this finding. |
| Keywords: | Exchange rate disconnect; UIP puzzle; Indeterminacy; Bayesian estimation |
| JEL: | C62 E32 F31 F41 |
| Date: | 2024–12–19 |
| URL: | https://d.repec.org/n?u=RePEc:keo:dpaper:2024-024 |
| By: | Anastasios G. Karantounias (University of Surrey) |
| Abstract: | This paper extends the dynamic theory of optimal fiscal policy with a representative agent in several environments by using a generalized version of recursive preferences. I allow markets to be complete or incomplete and study optimal policy under commitment or discretion. The resulting theories are interpreted through the excess burden of taxation, a multiplier, whose evolution gives rise to different notions of “tax-smoothing.” Variants of a law of motion in terms of the inverse excess burden emerge when we allow for richer asset pricing implications through recursive preferences. I highlight a common unifying principle of taxation and debt issuance in all environments that revolves around interest rate manipulation: issue new debt and tax more in the future if this can lead to lower interest rates today. |
| Keywords: | Excess burden, tax smoothing, recursive utility, commitment, discretion, statecontingent debt, incomplete markets, martingale, fiscal hedging |
| JEL: | D80 E62 H21 H63 |
| Date: | 2024–12 |
| URL: | https://d.repec.org/n?u=RePEc:cfm:wpaper:2444 |
| By: | Dirk Bergemann (Yale University); Marek Bojko (Yale University); Paul DŸtting (Google Research); Renato Paes Leme (Google Research); Haifeng Xu (University of Chicago and Google Research); Song Zuo (Google Research) |
| Abstract: | We study mechanism design when agents hold private information about both their preferences and a common payoff-relevant state. We show that standard message-driven mechanisms cannot implement socially efficient allocations when agents have multidimensional types, even under favorable conditions. To overcome this limitation, we propose data-driven mechanisms that leverage additional post-allocation information, modeled as an estimator of the pay-off relevant state. Our data-driven mechanisms extend the classic Vickrey-Clarke-Groves class. We show that they achieve exact implementation in posterior equilibrium when the state is either fully revealed or the utility is linear in an unbiased estimator. We also show that they achieve approximate implementation with a consistent estimator, converging to exact implementation as the estimator converges, and present bounds on the convergence rate. We demonstrate applications to digital advertising auctions and large language model (llm) - based mechanisms, where user engagement naturally reveals relevant information. |
| Date: | 2024–12 |
| URL: | https://d.repec.org/n?u=RePEc:cwl:cwldpp:2418 |
| By: | Travis D. Nesmith |
| Abstract: | Risk was first incorporated into monetary aggregation over thirty-five years ago, using a stochastic version of the workhorse money-in-the-utility-function model.Nevertheless, the mathematical foundations of this stochastic model remain shaky.To firm the foundations, this paper employs a slightly richer probability conceptthan standard Borel-measurability, which enables me to prove the existence of awell-behaved solution and to derive stochastic Euler equations. This measurabilityapproach is long-established albeit less common in economics, possibly because the derivation of stochastic Euler equations is new. Importantly, the problem’s economics are not restricted by the approach. Consequently, the results provide firm footing for the growing monetary aggregation under risk literature, which integrates monetary and finance theory. As crypto-currencies and stable coins garner more attention, solidifying the foundations of risky money becomes more critical. The method also supports deriving stochastic Euler equations for any dynamic economics problem that features contemporaneous uncertainty about prices, including asset pricing models like CAPM and stochastic consumer choice models. |
| Keywords: | Money; Risk; Monetary aggregation; Asset pricing; Dynamic programming; Stochastic modeling; Uncertainty; Euler equations |
| JEL: | C61 C62 D81 D84 E40 G12 |
| Date: | 2024–11–26 |
| URL: | https://d.repec.org/n?u=RePEc:fip:fedgfe:2024-90 |
| By: | Peng Liu; Tiantian Mao; Ruodu Wang |
| Abstract: | Choquet capacities and integrals are central concepts in decision making under ambiguity or model uncertainty, pioneered by Schmeidler. Motivated by risk optimization problems for quantiles under ambiguity, we study the subclass of Choquet integrals, called Choquet quantiles, which generalizes the usual (probabilistic) quantiles, also known as Value-at-Risk in finance, from probabilities to capacities. Choquet quantiles share many features with probabilistic quantiles, in terms of axiomatic representation, optimization formulas, and risk sharing. We characterize Choquet quantiles via only one axiom, called ordinality. We prove that the inf-convolution of Choquet quantiles is again a Choquet quantile, leading to explicit optimal allocations in risk sharing problems for quantile agents under ambiguity. A new class of risk measures, Choquet Expected Shortfall, is introduced, which enjoys most properties of the coherent risk measure Expected Shortfall. Our theory is complemented by optimization algorithms, numerical examples, and a stylized illustration with financial data. |
| Date: | 2024–12 |
| URL: | https://d.repec.org/n?u=RePEc:arx:papers:2412.19546 |
| By: | Thomas Aronsson (University of Umea, Sweden and University of Graz, Austria); Olof Johansson-Stenman (University of Gothenburg, Sweden) |
| Abstract: | We analyze optimal redistributive income taxation within a Mirrleesian framework that incorporates other-regarding preferences, examining both a general model and four specific cases. Two of these reflect self-centered inequality aversion, based on models by Fehr & Schmidt and Bolton & Ockenfels, respectively, while the other two reflect non-self-centered inequality aversion, where individuals prefer a low Gini coefficient and a high minimum disposable income. We find that other-regarding preferences can substantially increase the income tax rates, including top income tax rates, and enhance the overall redistribution. Furthermore, different types of other-regarding preferences have markedly different implications for optimal taxation. |
| Keywords: | Optimal Taxation, Redistribution, Social Preferences, Inequality Aversion. |
| JEL: | D62 D90 H21 H23 |
| Date: | 2024–12 |
| URL: | https://d.repec.org/n?u=RePEc:grz:wpaper:2024-22 |
| By: | Phoebe Koundouri; Nikitas Pittis (University of Piraeus, Greece); Panagiotis Samartzis |
| Abstract: | This paper has three main objectives. First, it aims to clarify the alternative concepts of rationality used in economics, specifically Rationality-A(coherence of subjective probabilities for every point in time), Rationality- B (perfect alignment with objective probabilities for every point in time), and Rationality-BB (asymptotic convergence to objective probabilities over time). Second, it seeks to identify distinct sets of epistemic assumptions (S1-S5) that logically entail each of these three definitions of rationality and to explain their respective roles. Third, it evaluates the pragmatic justifications for these assumptions, focusing on Dutch Book arguments for coherence and arbitrage arguments for asymptotic accuracy. |
| Keywords: | Rationality, Coherence, Accuracy, Epistemic Assumptions, Pragmatic Justifications |
| JEL: | C44 D81 D83 D89 |
| Date: | 2025–01–05 |
| URL: | https://d.repec.org/n?u=RePEc:aue:wpaper:2501 |
| By: | Geir B Asheim (Department of Economics [Oslo] - Faculty of Social Sciences [Oslo] - UiO - University of Oslo); Kohei Kamaga (Sophia University [Tokyo]); Stéphane Zuber (PSE - Paris School of Economics - UP1 - Université Paris 1 Panthéon-Sorbonne - ENS-PSL - École normale supérieure - Paris - PSL - Université Paris Sciences et Lettres - EHESS - École des hautes études en sciences sociales - ENPC - École nationale des ponts et chaussées - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement, CES - Centre d'économie de la Sorbonne - UP1 - Université Paris 1 Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique) |
| Abstract: | We examine utilitarian criteria for evaluating profiles of well-being among infinitely many individuals. Motivated by the non-existence of a natural 1-to-1 correspondence between people when alternatives have different population structures, with a different number of people in each generation, we impose equal treatment in the form of Strong Anonymity. We demonstrate how a novel criterion, Strongly Anonymous Utilitarianism, can be applied in the Ramsey model, leading to an efficient and sustainable stream. We show how the criterion is the result of combining Strong Anonymity with other regularity axioms (Monotonicity, Finite Completeness, and continuity axioms) as well as axioms of equity, population ethics, sensitivity, and separability. We relate it to other strongly anonymous utilitarian criteria. |
| Keywords: | Utilitarianism, Intergenerational equity, Population ethics |
| Date: | 2024–11 |
| URL: | https://d.repec.org/n?u=RePEc:hal:cesptp:halshs-04828788 |
| By: | Kazunori Yakushiji; Jieyi Duan; Nobuyuki Hanaki |
| Abstract: | We conduct a replication experiment, with sophisticated student participants, of the three main treatments of the debt aversion experiment by Mart´ınez-Marquina and Shi (2024). While participants in our experiment have chosen return maximizing strategies much more frequently than those in Mart´ınez-Marquina and Shi (2024), our findings partially corroborate their observations that participants burdened with debt tend to forego, at least initially, the “certain and maximum profit investment opportunity” in favor of prioritizing debt repayment. |
| Date: | 2024–12 |
| URL: | https://d.repec.org/n?u=RePEc:dpr:wpaper:1269 |
| By: | Mateo Velásquez-Giraldo |
| Abstract: | Survey measurements of households’ expectations about U.S. equity returns show substantial heterogeneity and large departures from the historical distribution of actual returns. The average household perceives a lower probability of positive returns and a greater probability of extreme returns than history has exhibited. I build a life-cycle model of saving and portfolio choices that incorporates beliefs estimated to match these survey measurements of expectations. This modification enables the model to greatly reduce a tension in the literature in which models that have aimed to match risky portfolio investment choices by age have required much higher estimates of the coefficient of relative risk aversion than models that have aimed to match age profiles of wealth. The tension is reduced because beliefs that are more pessimistic than the historical experience reduce people’s willingness to invest in stocks. |
| Keywords: | Consumption and Saving; Heterogeneous Beliefs; Life cycle dynamics; Portfolio choice |
| JEL: | G11 G40 G51 G53 E21 D15 |
| Date: | 2024–12–20 |
| URL: | https://d.repec.org/n?u=RePEc:fip:fedgfe:2024-97 |
| By: | Phoebe Koundouri; Nikitas Pittis (University of Piraeus, Greece); Panagiotis Samartzis |
| Abstract: | Consider an event of interest B and another event A which is viewed as information for B. When a decision maker (DM) evaluates the effect of A on B, she evaluates the degree to which she asserts the indicative conditional "if A then B", written as A ---> B. In the context of the standard Bayesian confirmation theory, the degree of assertability, As(A ---> B) is given by DM's subjective conditional probability P(B | A). However, the Bayesian interpretation is not the only rational interpretation of As(A ---> B). An alternative interpretation is that As(A ---> B) goes by the probability that the proposition A ---> B is true, that is by DM's unconditional probability P(A ---> B). It is now widely accepted that there is no interpretation of "--->" that ensures the genral validity of P(A ---> B) = P(B | A). Hence, there are multiple truth-conditional interpretations of "--->" each corresponding to a distinct way of information processing. One of these interpretations, namely the material implication of the Propositional Logic, competes favorably with the Bayesian interpretation on normative grounds. As a result, two decision makers can disagree about their posterior probabilities of B even if they share the same information A and have identical prior probability functions. |
| Keywords: | Information processing, rationality, disagreement, bayesianism, logic |
| JEL: | C44 D81 D83 D89 |
| Date: | 2025–01–09 |
| URL: | https://d.repec.org/n?u=RePEc:aue:wpaper:2509 |
| By: | Daniel Rondeau (University of Victoria); Christian A. Vossler (Department of Economics, University of Tennessee) |
| Abstract: | Answers to valuation questions in stated preference surveys can be analyzed as economic decisions only if respondents believe their choice(s) are consequential (i.e., can affect their welfare). The empirical evidence we review indicates that the information content of surveys can significantly influence consequentiality beliefs, and controlling for beliefs can impact welfare estimates and improve validity. The review also uncovers several opportunities to improve upon current practices. First, most surveys do not deploy incentive compatible mechanisms that provide respondents with the correct incentives to truthfully reveal their preferences. Second, existing consequentiality measures do not fully capture consequentiality and are challenging to interpret. Finally, studies do not generally measure or control for other beliefs required to ensure that estimated value are consistent with economic theory. Hence, we provide a theoretical framework that links incentive compatibility conditions to a respondent’s beliefs about these conditions. This motivates a theory-driven proposal to improve belief elicitation and foster greater validity of survey results. |
| Keywords: | Stated Preferences; Consequentiality; Incentive Compatibility; Mechanism Design; Belief Elicitation; Validity |
| JEL: | H21 H23 |
| Date: | 2024–06 |
| URL: | https://d.repec.org/n?u=RePEc:ten:wpaper:2024-02_1 |
| By: | Phoebe Koundouri; Nikitas Pittis (University of Piraeus, Greece); Panagiotis Samartzis |
| Abstract: | This paper examines the interplay between coherence-based rationality (Rationality-1), which ensures consistency in belief systems via propositional calculus, and preference-based economic rationality (Rationality-2), governed by axioms such as completeness and transitivity. In the standard propositional framework L, the Validity Consensus Property (VCP) - ensuring universal agreement on argument validity across different logical tests - holds universally. However, when the framework is extended to include preference propositions, forming Lp, the imposition of rationality constraints from Rationality-2 affects the semantics of Lp. These changes cause VCP to fail, meaning that agents using different logical tests may disagree on whether an argument is valid. Furthermore, in striving to satisfy the constraints of Rationality-2, an agent may accept conclusions that introduce contradictions into their belief system, thereby violating the consistency required by Rationality-1. |
| Date: | 2025–01–05 |
| URL: | https://d.repec.org/n?u=RePEc:aue:wpaper:2502 |
| By: | Lorenzo Bretscher (Swiss Finance Institute - HEC Lausanne; Centre for Economic Policy Research (CEPR)); Aytek Malkhozov (McGill University); Andrea Tamoni (University of Notre Dame - Mendoza College of Business); Haoxi Yang (USun Yat-sen University (SYSU) - Lingnan (University) College) |
| Abstract: | We investigate the role of distorted beliefs in the stock market, particularly their impact on risk premia. We identify the bias in investors' expectations stemming from belief distortions and decompose the predictable component of market returns into investors' beliefs about future returns and their bias. We then show that shocks to this bias, because it manifests itself as discount-rate risk in the data but represents cash-flow risk from investors' perspective, emerges as a priced risk factor. Our findings indicate that distorted beliefs impact both the time series and cross-section of expected returns, helping to explain observed deviations from theoretical predictions under rational expectations. |
| Keywords: | distorted beliefs, return predictability, ICAPM, cross-section of stock returns |
| JEL: | G12 |
| Date: | 2024–10 |
| URL: | https://d.repec.org/n?u=RePEc:chf:rpseri:rp2466 |
| By: | Dasgupta, Indraneel (Indian Statistical Institute); Gupta, Dhritiman (Indian Institute of Management) |
| Abstract: | We consider rent-seeking contests between and within two equal-sized groups. Each group adopts one of three sequences: first internal then external contest, first external then internal contest, and simultaneous internal and external contests. Groups cannot unilaterally postpone a contest without losing. We rank the nine possible combinations according to rent-seeking expenditure and expected utilities. Rent-seeking is maximum when both internal contests either precede, or occur simultaneously with, the external contest. These forms have identical, Pareto-dominated, welfare consequences. Among contest forms which offer both groups a positive win probability, rent-seeking is minimized if the between-group contest precedes both within-group contests; this also induces Pareto-efficiency. When the groups independently choose the contest sequence, the unique Nash equilibrium involves simultaneous occurrence of all contests. Results due to Warneryd (1998) and Amegashie (1999) fall out. When a multi-member group battles a single-member one, unity against the common enemy (an efficient sequence choice) can be sustained if the larger group can resolve its internal coordination problem. With unequal groups and symmetric contest sequencing, the one-tier contest form may be Pareto-efficient, despite generating greater rent-seeking than all symmetric two-tier forms. |
| Keywords: | Tullock contest, internal and external rent-seeking, rent dissipation, contest design, war |
| JEL: | D70 D72 D74 |
| Date: | 2024–12 |
| URL: | https://d.repec.org/n?u=RePEc:iza:izadps:dp17556 |