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Market behavior when preferences are generated by second-order stochastic dominance

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  • Dana, Rose-Anne
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    Abstract

    We develop a theory of decision making and General Equilibrium for contingent markets when incomplete preferences are generated by second-order stochastic dominance (SSD). Demand, Pareto-optima and equilibria dominance are fully characterized. Demands and equilibrium allocations are non-increasing functions of the pricing density and Pareto-optimal allocations are comonotone. They generalize mean–variance demands and CAPM equilibrium allocations which are non-increasing affine functions of the pricing density. They are not observationally distinguishable from those of von-Neumann–Morgenstern decision makers with increasing strictly concave utilities nor from those of strict risk averse non-expected utility maximizers. We also show that expenditure functions associated to second-order stochastic dominance, provide microeconomic foundations for a class of law invariant risk-measures used in mathematical finance.

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    File URL: http://basepub.dauphine.fr/xmlui/bitstream/123456789/6697/2/2000-44.pdf
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    Bibliographic Info

    Paper provided by Paris Dauphine University in its series Economics Papers from University Paris Dauphine with number 123456789/6697.

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    Date of creation: 2004
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    Publication status: Published in Journal of Mathematical Economics, 2004, Vol. 40, no. 6. pp. 619-639.Length: 20 pages
    Handle: RePEc:dau:papers:123456789/6697

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    Keywords: Market; Behavior; Stochastic;

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    1. Dybvig, Philip H, 1988. "Distributional Analysis of Portfolio Choice," The Journal of Business, University of Chicago Press, vol. 61(3), pages 369-93, July.
    2. Gollier, Christian & Schlesinger, Harris, 1996. "Arrow's Theorem on the Optimality of Deductibles: A Stochastic Dominance Approach," Economic Theory, Springer, vol. 7(2), pages 359-63, February.
    3. Kim, Chongmin, 1998. "Stochastic Dominance, Pareto Optimality, and Equilibrium Asset Pricing," Review of Economic Studies, Wiley Blackwell, vol. 65(2), pages 341-56, April.
    4. Chateauneuf, A. & Cohen, M. & Meilijson, I., 1997. "New Tools to Better Model Behavior Under Risk and UNcertainty: An Oevrview," Papiers d'Economie Mathématique et Applications 97.55, Université Panthéon-Sorbonne (Paris 1).
    5. Atkinson, Anthony B., 1970. "On the measurement of inequality," Journal of Economic Theory, Elsevier, vol. 2(3), pages 244-263, September.
    6. Peleg, Bezalel & Yaari, M E, 1975. "A Price Characterization of Efficient Random Variables," Econometrica, Econometric Society, vol. 43(2), pages 283-92, March.
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    Cited by:
    1. Galichon, Alfred & Dana, Rose-Anne & Carlier, Guillaume, 2012. "Pareto efficiency for the concave order and multivariate comonotonicity," Economics Papers from University Paris Dauphine 123456789/9713, Paris Dauphine University.
    2. Borglin, Anders & Flåm, Sjur, 2007. "Rationalizing Constrained Contingent Claims," Working Papers 2007:12, Lund University, Department of Economics.
    3. repec:ipg:wpaper:59 is not listed on IDEAS
    4. Guillaume Carlier & Rose-Anne Dana, 2013. "Pareto optima and equilibria when preferences are incompletely known," Post-Print hal-00661903, HAL.
    5. G. Carlier & R.-A. Dana, 2014. "Pareto optima and equilibria when preferences are incompletely known," Working Papers 2014-060, Department of Research, Ipag Business School.
    6. repec:spo:wpecon:info:hdl:2441/5rkqqmvrn4tl22s9mc0p00hch is not listed on IDEAS
    7. Mandler, Michael, 2014. "Indecisiveness in behavioral welfare economics," Journal of Economic Behavior & Organization, Elsevier, vol. 97(C), pages 219-235.
    8. Ghossoub, Mario, 2011. "Monotone equimeasurable rearrangements with non-additive probabilities," MPRA Paper 37629, University Library of Munich, Germany, revised 23 Mar 2012.
    9. Carlier, G. & Dana, R.-A., 2013. "Pareto optima and equilibria when preferences are incompletely known," Journal of Economic Theory, Elsevier, vol. 148(4), pages 1606-1623.

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