Reference-Dependent Risk Attitudes
AbstractWe use Koszegi and Rabin's (2006) model of reference-dependent utility, and an extension of it that applies to decisions with delayed consequences, to study preferences over monetary risk. Because our theory equates the reference point with recent probabilistic beliefs about outcomes, it predicts specific ways in which the environment influences attitudes toward modest-scale risk. It replicates "classical" prospect theoryâincluding the prediction of distaste for insuring lossesâwhen exposure to risk is a surprise, but implies first-order risk aversion when a risk, and the possibility of insuring it, are anticipated. A prior expectation to take on risk decreases aversion to both the anticipated and additional risk. For large-scale risk, the model allows for standard "consumption utility" to dominate reference-dependent "gain-loss utility," generating nearly identical risk aversion across situations. (JEL D81)
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Bibliographic InfoPaper provided by UCLA Department of Economics in its series Levine's Bibliography with number 122247000000001267.
Date of creation: 27 Mar 2006
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Other versions of this item:
- D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
This paper has been announced in the following NEP Reports:
- NEP-ALL-2006-04-01 (All new papers)
- NEP-CBE-2006-04-01 (Cognitive & Behavioural Economics)
- NEP-FMK-2006-04-01 (Financial Markets)
- NEP-IAS-2006-04-01 (Insurance Economics)
- NEP-UPT-2006-04-01 (Utility Models & Prospect Theory)
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