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on Utility Models and Prospect Theories |
| By: | BOSSERT, Walter; SUZUMURA, Kotaro |
| Abstract: | Although the theory of greatest-element rationalizability and maximal-element rationalizability under general domains and without full transitivity of rationalizing relations is well-developed in the literature, these standard notions of rational choice are often considered to be too demanding. An alternative definition of rationality of choice is that of non-deteriorating choice, which requires that the chosen alternatives must be judged at least as good as a reference alternative. In game theory, this definition is well-known under the name of individual rationality when the reference alternative is construed to be the status quo. This alternative form of rationality of individual and social choice is characterized in this paper on general domains and without full transitivity of rationalizing relations. |
| Keywords: | Reference-Dendent Choice, Individual Rationality, Efficiency, Coherence Prorties |
| JEL: | D11 D71 |
| Date: | 2006 |
| URL: | http://d.repec.org/n?u=RePEc:mtl:montde:2006-13&r=upt |
| By: | Krüger, Dirk; Lustig, Hanno |
| Abstract: | In models with a large number of agents who have constant relative risk aversion (CRRA) preferences, the absence of insurance markets for idiosyncratic labour income risk has no effect on the premium for aggregate risk if the distribution of idiosyncratic risk is independent of aggregate shocks. In spite of the missing markets, a representative agent who consumes aggregate income prices the excess returns on stocks correctly. This result holds regardless of the persistence of idiosyncratic shocks, as long as they are not permanent, even when households face binding, and potentially very tight borrowing constraints. Consequently, in this class of models there is no link between the extent of self-insurance against idiosyncratic income risk and aggregate risk premia. |
| Keywords: | idiosyncratic income risk; incomplete markets; risk premium |
| JEL: | G12 |
| Date: | 2006–11 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:5936&r=upt |
| By: | Michal Bauer (Institute of Economic Studies, Faculty of Social Sciences, Charles University, Prague, Czech Republic) |
| Abstract: | The paper examines the risk behavior of a competitive firm under price uncertainty. In the model developed in the paper we have departed from the thought-provoking approach of Greenwald and Stiglitz (1993a), which implies solely risk averse behavior of firms due to its restrictive assumptions about firm’s financing. Through the incorporation of other plausible and more general assumptions about the firm’s financing (namely the access to the equity market, possible existence of soft budget constraint) we were able to theoretically formulate the conditions, under which the firm is induced to behave in more risk averse vs. risky manner. While the firm’s attitude to risk directly influences its willingness to produce, our results indicate that in the environment of uncertainty the price and technology are not the only important determinants of the firm’s optimal output level as is the case for the neoclassical theory of firm. The results of our model have shown that additional factors like firm’s net worth position, sensitivity of managers to bankruptcy, firm’s ability to raise new equity, softness of the budget constraint and degree of uncertainty about the future prices may play an important role for firm’s optimal output considerations. |
| Keywords: | firm; uncertainty; attitude to risk; capital structure; soft budget constraint |
| JEL: | D21 D81 G32 |
| Date: | 2005 |
| URL: | http://d.repec.org/n?u=RePEc:fau:wpaper:wp071&r=upt |
| By: | BOSSERT, Walter; PETERS, Hans |
| Abstract: | Single-peaked preferences have played an important role in the literature ever since they were used by Black (1948) to formulate a domain restriction that is sufficient for the exclusion of cycles according to the majority rule. In this paper, we approach single-peakedness from a choice-theoretic perspective. We show that the well-known axiom independence of irrelevant alternatives (a form of contraction consistency) and a weak continuity requirement characterize a class of single-peaked choice functions. Moreover, we examine the rationalizability and the rationalizability-representability of these choice functions. |
| Keywords: | Single-akedness, choice functions, rationalizability, reesentability |
| JEL: | D11 D71 |
| Date: | 2006 |
| URL: | http://d.repec.org/n?u=RePEc:mtl:montde:2006-14&r=upt |
| By: | Bekaert, Geert; Engstrom, Eric; Xing, Yuhang |
| Abstract: | We identify the relative importance of changes in the conditional variance of fundamentals (which we call "uncertainty") and changes in risk aversion ("risk" for short) in the determination of the term structure, equity prices and risk premiums. Theoretically, we introduce persistent time-varying uncertainty about the fundamentals in an external habit model. The model matches the dynamics of dividend and consumption growth, including their volatility dynamics and many salient asset market phenomena. While the variation in dividend yields and the equity risk premium is primarily driven by risk, uncertainty plays a large role in the term structure and is the driver of counter-cyclical volatility of asset returns. |
| Keywords: | equity premium; excess volatility; external habit; stochastic risk aversion; term structure; time variation in risk and return; uncertainty |
| JEL: | E44 G12 G15 |
| Date: | 2006–11 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:5947&r=upt |
| By: | Rolf Aaberge (Statistics Norway and IZA Bonn); Ugo Colombino (University of Turin and Statistics Norway) |
| Abstract: | The purpose of this paper is to present an exercise where we identify optimal income tax rules under the constraint of fixed tax revenue. To this end, we estimate a microeconomic model with 78 parameters that capture heterogeneity in consumption-leisure preferences for singles and couples as well as in job opportunities across individuals based on detailed Norwegian household data for 1994. For any given tax rule, the estimated model can be used to simulate the choices made by single individuals and couples. Those choices are therefore generated by preferences and opportunities that vary across the decision units. Differently from what is common in the literature, we do not rely on a priori theoretical optimal taxation results, but instead we identify optimal tax rules - within a class of 6-parameter piece-wise linear rules - by iteratively running the model until a given social welfare function attains its maximum under the constraint of keeping constant the total net tax revenue. We explore a variety of social welfare functions with differing degree of inequality aversion and also two alternative social welfare principles, namely equality of outcome and equality of opportunity. All the social welfare functions turn out to imply an average tax rate lower than the current 1994 one. Moreover, all the optimal rules imply - with respect to the current rule - lower marginal rates on low and/or average income levels and higher marginal rates on relatively high income levels. These results are partially at odds with the tax reforms that took place in many countries during the last decades. While those reforms embodied the idea of lowering average tax rates, the way to implement it has typically consisted in reducing the top marginal rates. Our results instead suggest to lower average tax rates by reducing marginal rates on low and average income levels and increasing marginal rates on very high income levels. |
| Keywords: | labour supply, optimal taxation, random utility model, microsimulation |
| JEL: | H21 H31 J22 |
| Date: | 2006–11 |
| URL: | http://d.repec.org/n?u=RePEc:iza:izadps:dp2468&r=upt |
| By: | Bekaert, Geert; Engstrom, Eric; Grenadier, Steve |
| Abstract: | We present a tractable, linear model for the simultaneous pricing of stock and bond returns that incorporates stochastic risk aversion. In this model, analytic solutions for endogenous stock and bond prices and returns are readily calculated. After estimating the parameters of the model by the general method of moments, we investigate a series of classic puzzles of the empirical asset pricing literature. In particular, our model is shown to jointly accommodate the mean and volatility of equity and long term bond risk premia as well as salient features of the nominal short rate, the dividend yield, and the term spread. Also, the model matches the evidence for predictability of excess stock and bond returns. However, the stock-bond return correlation implied by the model is somewhat higher than in the data. |
| Keywords: | countercyclical risk aversion; equity premium; excess volatility; habit persistence; return predictability; stock-bond return correlation |
| JEL: | E44 G12 G15 |
| Date: | 2006–11 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:5951&r=upt |
| By: | Sjögren Lindquist, Gabriella (Swedish Institute for Social Research, Stockholm University) |
| Abstract: | This paper introduces the negative feelings associated with the perception of being unfairly treated into a tournament model and examines the impact of these perceptions on workers’ efforts and their willingness to work overtime. The effect of unfair treatment on workers’ behavior is ambiguous in the model in that two countervailing effects arise: a negative impulsive effect and a positive strategic effect. The impulsive effect implies that workers react to the perception of being unfairly treated by reducing their level of effort. The strategic effect implies that workers raise this level in order to improve their career opportunities and thereby avoid feeling even more unfairly treated in the future. An empirical test of the model using survey data from a Swedish municipal utility shows that the overall effect is negative. This suggests that employers should consider the negative impulsive effect of unfair treatment on effort and overtime in designing contracts and determining on promotions. |
| Keywords: | Unfair treatment; tournaments |
| JEL: | J33 M51 M52 |
| Date: | 2006–12–06 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:sofiwp:2006_008&r=upt |
| By: | Alexander Harin (Modern University for the Humanities) |
| Abstract: | A man is a key subject of economics. “A man is irrational” - this opinion can be made from Allais paradox, risk aversion and other well-known fundamental problems. For a long time, this opinion was a barrier to proper solution of these problems and the development of the economics. A radically new way is proposed to solve them and remove this barrier. The way is the generalization of a breach of a term of contract. |
| Keywords: | risk, business, bank, trade, industry, development, utility, contract, “ideal” economics, investment |
| JEL: | C D E C7 D8 E2 G11 |
| Date: | 2006–08–14 |
| URL: | http://d.repec.org/n?u=RePEc:nos:wuwpmi:harin_alexander.34115-060814&r=upt |