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On the impossibility of protecting risk-takers

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  • Toomas Hinnosaar

Abstract

Risk-neutral sellers can extract high profits from risk-loving buyers by selling them lotteries. To limit this problem, gambling is heavily regulated in most countries. I show that protecting risk-loving buyers against profit-maximizing sellers is essentially impossible. Even if buyers are risk-loving in the weakest sense, the seller can construct a nonrandom winner-pays auction that ensures unbounded profits. The result holds even if the seller cannot use any mechanism that resembles a lottery and only requires that buyers are asymptotically risk loving. This condition is satisfied, for example, when preferences satisfy Savage’s axioms or with prospect theory preferences.

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  • Toomas Hinnosaar, 2015. "On the impossibility of protecting risk-takers," Carlo Alberto Notebooks 404, Collegio Carlo Alberto.
    • Handle: RePEc:cca:wpaper:404
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    References listed on IDEAS

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    More about this item

    Keywords

    risk-loving agents; auctions; gambling; prospect theory;
    All these keywords.

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D44 - Microeconomics - - Market Structure, Pricing, and Design - - - Auctions
    • C72 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Noncooperative Games
    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty

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