Is Risk Aversion Really Correlated with Wealth? How estimated probabilities introduce spurious correlation
Economists attribute many common behaviors to risk aversion and frequently focus on how wealth moderates risk preferences. This paper highlights a problem associated with empirical tests of the relationship between wealth and risk aversion that can arise when the probabilities individuals face are unobservable to researchers. The common remedy for unobservable probabilities involves the estimation of probabilities in a profit or production that includes farmer, farm and agro-climatic variables. Unfortunately, these variables are often correlated with wealth such that estimated probabilities are likely to leave statistical fingerprints on subsequently-estimated risk aversion coefficients and may thereby introduce spurious correlations between wealth and risk preferences. In this paper, we use data from an experiment conducted among 290 Indian farmers to detect these spurious correlations. We estimate coefficients of risk aversion with known probabilities and with estimated probabilities and compare subsequent correlations with wealth and other farmer traits. We estimate 'unobservable' probabilities in conjunction with risk preferences following a standard field data approach. We explore the statistical implications of estimating probabilities by comparing correlations between wealth and these two sets of estimated risk preferences. These comparisons show how estimated probabilities can change risk aversion coefficients substantially and introduce spurious correlations between risk aversion and wealth.
|Date of creation:||2006|
|Contact details of provider:|| Postal: 555 East Wells Street, Suite 1100, Milwaukee, Wisconsin 53202|
Phone: (414) 918-3190
Fax: (414) 276-3349
Web page: http://www.aaea.org
More information through EDIRC
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Milton Friedman & L. J. Savage, 1948. "The Utility Analysis of Choices Involving Risk," Journal of Political Economy, University of Chicago Press, vol. 56, pages 279-279.
- Rulon D. Pope, 2003. "Agricultural Risk Analysis: Adequacy of Models, Data, and Issues," American Journal of Agricultural Economics, Agricultural and Applied Economics Association, vol. 85(5), pages 1249-1256.
- David R. Just & Hikaru Hanawa Peterson, 2003. "Diminishing Marginal Utility of Wealth and Calibration of Risk in Agriculture," American Journal of Agricultural Economics, Agricultural and Applied Economics Association, vol. 85(5), pages 1234-1241.
- Edward Balistreri & Gary McClelland & Gregory Poe & William Schulze, 2001.
"Can Hypothetical Questions Reveal True Values? A Laboratory Comparison of Dichotomous Choice and Open-Ended Contingent Values with Auction Values,"
Environmental & Resource Economics,
Springer;European Association of Environmental and Resource Economists, vol. 18(3), pages 275-292, March.
- Balistreri, Edward J. & Poe, Gregory L. & McClelland, Gary H. & Schulze, William D., 1996. "Can Hypothetical Questions Reveal True Values? A Laboratory Comparison of Dichotomous Choice and Open-Ended Contingent Values with Auction Values," Working Papers 127865, Cornell University, Department of Applied Economics and Management.
- Bar-Shira, Z. & Just, R. E. & Zilberman, D., 1997. "Estimation of farmers' risk attitude: an econometric approach," Agricultural Economics, Blackwell, vol. 17(2-3), pages 211-222, December.
- Bar-Shira, Ziv & Just, Richard E. & Zilberman, D., 1997. "Estimation of farmers' risk attitude: an econometric approach," Agricultural Economics of Agricultural Economists, International Association of Agricultural Economists, vol. 17(2-3), December.
- Bar-Shira, Z. & Just, Richard E. & Zilberman, David, 1994. "Estimation of Farmers' Risk Attitude: An Econometric Approach," Working Papers 197812, University of Maryland, Department of Agricultural and Resource Economics.
- Chavas, Jean-Paul & Holt, Matthew T, 1996. "Economic Behavior under Uncertainty: A Joint Analysis of Risk Preferences and Technology," The Review of Economics and Statistics, MIT Press, vol. 78(2), pages 329-335, May.
- Lybbert, Travis J. & Barrett, Christopher B. & Narjisse, Hamid, 2002. "Market-based conservation and local benefits: the case of argan oil in Morocco," Ecological Economics, Elsevier, vol. 41(1), pages 125-144, April. Full references (including those not matched with items on IDEAS)