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Buying and selling price for risky lotteries and expected utility theory with gambling wealth

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  • Michal Lewandowski

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Abstract

I analyze two expected utility models which abandon the consequentialist assumption of terminal wealth positions. In the expected utility of gambling wealth model, in which initial wealth is allowed to be small, I show that a large WTA/WTP gap is possible and the (Rabin in Econometrica, 68(5), 1281–1292, 2000 ) paradox may be resolved. Within the same model the classical preference reversal which allows arbitrage is not possible, whereas preference reversal (involving buying prices in place of selling prices), which does not allow arbitrage, is possible. In the expected utility of wealth changes model, in which there is no initial wealth, I show that both a WTA/WTP gap as well as the classical preference reversal are possible due to loss aversion, both in its general as well as some specific forms. Copyright The Author(s) 2014

Suggested Citation

  • Michal Lewandowski, 2014. "Buying and selling price for risky lotteries and expected utility theory with gambling wealth," Journal of Risk and Uncertainty, Springer, vol. 48(3), pages 253-283, June.
  • Handle: RePEc:kap:jrisku:v:48:y:2014:i:3:p:253-283
    DOI: 10.1007/s11166-014-9191-2
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    References listed on IDEAS

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    Cited by:

    1. repec:psc:journl:v:9:y:2017:i:4:p:275-321 is not listed on IDEAS
    2. Emilia Tomczyk, 2013. "End of sample vs. real time data: perspectives for analysis of expectations," Working Papers 68, Department of Applied Econometrics, Warsaw School of Economics.
    3. Krzysztof Kontek & Michal Lewandowski, 2013. "Range-Dependent Utility," Working Papers 69, Department of Applied Econometrics, Warsaw School of Economics.
    4. Stivender Carol O. & Gaggl Paul & Amato Louis H. & Farrow-Chestnut Tonya E., 2016. "The Impact of Education Earmarking on State-Level Lottery Sales," The B.E. Journal of Economic Analysis & Policy, De Gruyter, vol. 16(3), pages 1473-1500, September.

    More about this item

    Keywords

    Expected utility; Narrow framing; Rabin (2000) paradox; Preference reversal; WTA/WTP disparity; Buying and selling price for a lottery; D81; D03; C91;

    JEL classification:

    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • D03 - Microeconomics - - General - - - Behavioral Microeconomics: Underlying Principles
    • C91 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Individual Behavior

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