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Anticipated regret as an explanation of uncertainty aversion

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  • Daniel Krähmer

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  • Rebecca Stone

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    Abstract

    The paper provides a psychological explanation of uncertainty aversion based on the fear of regret. We capture an agent’s regret using a reference-dependent utility function in which the agent’s utility depends on the performance of his chosen option relative to the performance of the option that would have been best ex post. An uncertain option is represented as a compound lottery. The basic idea is that selecting a compound lottery reveals information, which alters the ex post assessment of what the best choice would have been, inducing regret. We provide sufficient conditions under which regret implies uncertainty aversion in the sense of quasi-concave preferences over compound lotteries. Copyright Springer-Verlag 2013

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    File URL: http://hdl.handle.net/10.1007/s00199-011-0661-3
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    Bibliographic Info

    Article provided by Springer in its journal Economic Theory.

    Volume (Year): 52 (2013)
    Issue (Month): 2 (March)
    Pages: 709-728

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    Handle: RePEc:spr:joecth:v:52:y:2013:i:2:p:709-728

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    Related research

    Keywords: Regret; Uncertainty aversion; Ambiguity aversion; Reference dependence; Information aversion; Hindsight bias; C72; D11; D81; D83;

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    References

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    1. David S. Ahn, 2008. "Ambiguity Without a State Space," Review of Economic Studies, Oxford University Press, vol. 75(1), pages 3-28.
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    3. José Apesteguía & Miguel A. Ballester, 2004. "A Theory Of Reference-Dependent Beavior," Documentos de Trabajo - Lan Gaiak Departamento de Economía - Universidad Pública de Navarra 0402, Departamento de Economía - Universidad Pública de Navarra.
    4. Uzi Segal, 1989. "Two-Stage Lotteries Without the Reduction Axiom," UCLA Economics Working Papers 552, UCLA Department of Economics.
    5. Uzi Segal, 1985. "The Ellsberg Paradox and Risk Aversion: An Anticipated Utility Approach," UCLA Economics Working Papers 362, UCLA Department of Economics.
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    12. Robert F. Nau, 2006. "Uncertainty Aversion with Second-Order Utilities and Probabilities," Management Science, INFORMS, vol. 52(1), pages 136-145, January.
    13. Matthew Rabin., 1997. "Psychology and Economics," Economics Working Papers 97-251, University of California at Berkeley.
    14. Gilboa, Itzhak & Schmeidler, David, 1989. "Maxmin expected utility with non-unique prior," Journal of Mathematical Economics, Elsevier, vol. 18(2), pages 141-153, April.
    15. Paul R. Milgrom, 1981. "Good News and Bad News: Representation Theorems and Applications," Bell Journal of Economics, The RAND Corporation, vol. 12(2), pages 380-391, Autumn.
    16. Hayashi, Takashi, 2008. "Regret aversion and opportunity dependence," Journal of Economic Theory, Elsevier, vol. 139(1), pages 242-268, March.
    17. Ghirardato, Paolo & Maccheroni, Fabio & Marinacci, Massimo, 2004. "Differentiating ambiguity and ambiguity attitude," Journal of Economic Theory, Elsevier, vol. 118(2), pages 133-173, October.
    18. David E. Bell, 1983. "Risk Premiums for Decision Regret," Management Science, INFORMS, vol. 29(10), pages 1156-1166, October.
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    Cited by:
    1. Broll, Udo & Ergozue, Martin & Welzel, Peter & Wong, Wing-Keung, 2013. "Optimal Output for the Regret-Averse Competitive Firm Under Price Uncertainty," MPRA Paper 51703, University Library of Munich, Germany.

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