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A Genuine Rank-Dependent Generalization of the Von Neumann-Morgenstern Expected Utility Theorem

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  • Mohammed Abdellaoui

    ()
    (Department of Economics, CNRS, GRID, Ecole Normale Superieure de Cachan, 61 avenue du President Wilson, 94235 Cachan Cedex, France)

Abstract

This paper uses "revealed probability trade-offs" to provide a natural foundation for probability weighting in the famous von Neumann and Morgenstern axiomatic set-up for expected utility. In particular, it shows that a rank-dependent preference functional is obtained in this set-up when the independence axiom is weakened to stochastic dominance and a probability trade-off consistency condition. In contrast with the existing axiomatizations of rank-dependent utility, the resulting axioms allow for complete flexibility regarding the outcome space. Consequently, a parameter-free test/elicitation of rank-dependent utility becomes possible. The probability-oriented approach of this paper also provides theoretical foundations for probabilistic attitudes towards risk. It is shown that the preference conditions that characterize the shape of the probability weighting function can be derived from simple probability trade-off conditions. Copyright The Econometric Society 2002.

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Bibliographic Info

Article provided by Econometric Society in its journal Econometrica.

Volume (Year): 70 (2002)
Issue (Month): 2 (March)
Pages: 717-736

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Handle: RePEc:ecm:emetrp:v:70:y:2002:i:2:p:717-736

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Cited by:
  1. George Wu & Jiao Zhang & Mohammed Abdellaoui, 2005. "Testing Prospect Theories Using Probability Tradeoff Consistency," Journal of Risk and Uncertainty, Springer, vol. 30(2), pages 107-131, January.
  2. Nicolas Drouhin, 2001. "Lifetime Uncertainty and Time Preference," Theory and Decision, Springer, vol. 51(2), pages 145-172, December.
  3. Valery Polkovnichenko, 2005. "Household Portfolio Diversification: A Case for Rank-Dependent Preferences," Review of Financial Studies, Society for Financial Studies, vol. 18(4), pages 1467-1502.
  4. Mikhail Sokolov, 2011. "Interval scalability of rank-dependent utility," Theory and Decision, Springer, vol. 70(3), pages 255-282, March.
  5. Kuilen, G. van de & Wakker, P.P., 2011. "The midweight method to measure attitudes towards risk and ambiguity," Open Access publications from Tilburg University urn:nbn:nl:ui:12-4275073, Tilburg University.
  6. Kfir Eliaz & Debraj Ray & Ronny Razin, 2006. "Choice Shifts in Groups: A Decision-Theoretic Basis," American Economic Review, American Economic Association, vol. 96(4), pages 1321-1332, September.
  7. Ulrich Schmidt & Horst Zank, 2011. "A Genuine Foundation for Prospect Theory," The School of Economics Discussion Paper Series 1114, Economics, The University of Manchester.
  8. Liang Zou, 2006. "An Alternative to Prospect Theory," Annals of Economics and Finance, Society for AEF, vol. 7(1), pages 1-28, May.

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