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on Utility Models and Prospect Theory |
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Issue of 2021‒03‒15
nine papers chosen by |
| By: | Harin, Alexander |
| Abstract: | A forbidden zone theorem, hypothesis, and applied mathematical method and model are introduced in the present article. The method and model are based on the forbidden zones and hypothesis. The model is uniformly and successfully applied for different domains. The ultimate goal of the research is to solve some generic problems of behavioral economics. |
| Keywords: | Expectation; Variation; Boundary; Utility; Prospect theory; Behavioral economics; |
| JEL: | C02 C1 D8 D81 |
| Date: | 2021–03–09 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:106545&r=all |
| By: | Marcela Ibanez (University of Goettingen); Sebastian O. Schneider (Max Planck Institute for Research on Collective Goods) |
| Abstract: | This paper empirically examines the behavioral precautionary saving hypothesis by Koszegi and Rabin (2009) stating that uncertainty about future income triggers saving because of loss aversion. We extend their theoretical analysis to also consider the internal margin, i.e., the strength, of loss aversion, and empirically study the relation between income risk, experimentally elicited loss aversion and precautionary savings. We do so using a sample of 640 individuals from the low-income population of Bogotá, characterized by limited financial education and subject to substantial income risk. In line with the theoretical predictions, we find that an increase in income risk is associated with higher savings for loss-averse individuals, and that this increase in savings grows with the degree of loss aversion. Thus, as suggested by Koszegi and Rabin (2009), but contrarily to common assumptions, our findings establish that loss aversion is not necessarily an obstacle to saving, and thus identify new approaches of increasing saving among individuals with low financial education. |
| Keywords: | Reference-dependent utility, expectations, consumption plans, precautionary savings, loss aversion, risk preferences, income risk, low-income, Bogotá, experiment |
| JEL: | D11 D14 D15 D81 D90 G40 J65 O16 |
| Date: | 2021–03–04 |
| URL: | http://d.repec.org/n?u=RePEc:mpg:wpaper:2021_06&r=all |
| By: | Michele Belot (Cornell University); Philipp Kircher (Cornell University); Paul Muller (Vrije Universiteit Amsterdam) |
| Abstract: | We propose a simple method for eliciting individual time preferences without estimating utility functions even in settings where background consumption changes over time. It relies on lottery tickets with high rewards. In a standard intertemporal choice model high rewards decouple lottery choices from variation in background consumption. We validate our elicitation method experimentally on two student samples: one asked in December when their current budget is reduced by extraordinary expenditures for Christmas gifts; the other asked in February when no such extra constraints exist. We illustrate an application of our method with unemployed job seekers which naturally have income/consumption variation. |
| Keywords: | time preferences, experimental elicitation, job search, hyperbolic discounting |
| JEL: | J64 D90 |
| Date: | 2021–02–05 |
| URL: | http://d.repec.org/n?u=RePEc:tin:wpaper:20210013&r=all |
| By: | Treich, Nicolas; Yang, Yuting |
| Abstract: | Standard benefit-cost analysis often ignores distortions caused by taxation and the heterogeneity of taxpayers. In this paper, we theoretically and numerically explore the effect of imperfect taxation on the public provision of mortality risk reductions (or public safety). We show that this effect critically depends on the source of imperfection as well as on the individual utility and survival probability functions. Our simulations based on the calibration of distributional weights and applied to the COVID-19 example suggest that the value per statistical life, and in turn the optimal level of public safety, should be adjusted downwards because of imperfect taxation. However, we also identify circumstances under which this result is reversed, so that imperfect taxation cannot generically justify less public safety. |
| Keywords: | Public safety; Environmental health; Imperfect taxation; Value per statistical life; Distortionary taxation; Wealth inequality; Risk aversion |
| JEL: | D61 H21 H41 I18 Q51 |
| Date: | 2021–02–07 |
| URL: | http://d.repec.org/n?u=RePEc:tse:wpaper:125273&r=all |
| By: | Christian Gollier (TSE - Toulouse School of Economics - UT1 - Université Toulouse 1 Capitole - 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 assume that the ex-post utility of an agent facing a menu of lotteries depends upon the actual payoff together with its forgone best alternative, thereby allowing for the expost emotion of regret. An increase in the risk of regret is obtained when the actual payoff and its forgone best alternative are statistically less concordant in the sense of Tchen (1980). The aversion to any such risk of regret is thus equivalent to the supermodularity of the bivariate utility function. We show that more regret-risk-averse agents are more willing to choose the risky act in a one-risky-one-safe menu, in particular when the payoff of the risky choice is highly skewed. This is compatible with the "possibility effect" that is well documented in prospect theory. Symmetrically, we define the aversion to elationrisk that can prevail when the ex-post utility is alternatively sensitive to the forgone worst payoff. We show that elation-risk-seeking is compatible with the "certainty effect". We finally show that regret-risk-averse and elation-risk-seeking people behave as if they had rank-dependent utility preferences with an inverse-S shaped probability weighting function that reproduces estimates existing in the literature. |
| Keywords: | Riskseeking,Probability weighting,Possibility effect,Certainty effect,Longshot bias,Prospect theory,Behavioral finance |
| Date: | 2020 |
| URL: | http://d.repec.org/n?u=RePEc:hal:journl:hal-03142627&r=all |
| By: | Surajeet Chakravarty (University of Exeter); Todd R. Kaplan (University of Exeter); Navonil Mustafee (University of Exeter) |
| Abstract: | A&E overcrowding is an important problem since many are not seen in a sufficiently quick time. There is evidence that the situation can be improved without adding additional resources by diverting would-be A&E patients to alternative centres of urgent care, for example, Minor Injury Units (MIUs). The aim of this paper is to investigate how access to information on waiting times may influence decision making. We collect laboratory data where subjects are offered a choice between receiving treatment at A&E and MIU. The subjects face a random delay at the A&E but a known wait at the MIU. We manipulate the information that the subjects receive from the probabilities (risk) of the different waiting times at the A&E from known probabilities to merely a vague indication of the waiting time (ambiguity). We find that subjects demonstrate a strong preference for the A&E. Subjects display risk neutrality for the A&E waiting time but are ambiguity averse when waiting times are relatively short and ambiguity-seeking when waiting times are relatively long. This indicates that perhaps partial revelation of waiting times may be optimal. Our research will inform stakeholder decision-making at the operational level (such as individual UK National Health Service (NHS) Trusts) about strategy regarding the release of timing information. |
| Keywords: | Health decisions, waiting times, ambiguity aversion. |
| Date: | 2020 |
| URL: | http://d.repec.org/n?u=RePEc:exe:wpaper:2003&r=all |
| By: | Hagenbach, Jeanne; Koessler, Frédéric |
| Abstract: | We consider a single psychological agent whose utility depends on his action, the state of the world, and the belief that he holds about that state. The agent is initially informed about the state and decides whether to memorize it, otherwise he has no recall. We model the memorization process by a multi-self game in which the privately informed first self voluntarily discloses information to the second self, who has identical preferences and acts upon the disclosed information. We identify broad categories of psychological utility functions for which there exists an equilibrium in which every state is voluntarily memorized. In contrast, if there are exogenous failures in the memorization process, then the agent memorizes states selectively. In this case, we characterize the partially informative equilibria for common classes of psychological utilities. If the material cost of forgetting is low, then the agent only memorizes good enough news. Otherwise, only extreme news are voluntarily memorized. |
| Keywords: | Multi-self game,disclosure games,imperfect recall,selective memory,motivated beliefs,psychological games,anticipatory utility |
| JEL: | C72 D82 |
| Date: | 2021 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:wzbmbh:spii2021201&r=all |
| By: | M. Avellaneda; T. N. Li; A. Papanicolaou; G. Wang |
| Abstract: | We propose a new approach for trading VIX futures. We assume that the term structure of VIX futures follows a Markov model. The trading strategy selects a multi-tenor position by maximizing the expected utility for a day-ahead horizon given the current shape and level of the VIX futures term structure. Computationally, we model the functional dependence between the VIX futures curves, the VIX futures positions, and the expected utility as a deep neural network with five hidden layers. Out-of-sample backtests of the VIX futures trading strategy suggest that this approach gives rise to reasonable portfolio performance, and to positions in which the investor can be either long or short VIX futures contracts depending on the market environment. |
| Date: | 2021–03 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:2103.02016&r=all |
| By: | Lucie Gadenne; Samuel Norris; Monica Singhal; Sandip Sukhtankar |
| Abstract: | Recent debates about the optimal form of social protection programs have highlighted the potential for cash as the preferred form of transfer to low income households. However, in-kind transfers remain prevalent throughout the world. We argue that beneficiaries themselves may prefer in-kind transfers because these transfers can provide insurance against price risk. Households in developing countries often face substantial price variation as a result of poorly integrated markets. We develop a model demonstrating that in-kind transfers are welfare improving relative to cash if the covariance between the marginal utility of income and price is positive. Using calorie shortfalls as a proxy for marginal utility, we find that in-kind transfers improve welfare relative to cash for Indian households, an effect driven entirely by poor households. We further show that expansions in the generosity of the Public Distribution System (PDS)—India’s in-kind food transfer program—result not only in increased caloric intake but also reduced sensitivity of calories to prices. |
| JEL: | H42 H53 I38 O12 Q18 |
| Date: | 2021–02 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:28507&r=all |