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Affective Decision Making and the Ellsberg Paradox

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    Affective decision-making is a strategic model of choice under risk and uncertainty where we posit two cognitive processes -- the "rational" and the "emotional" process. Observed choice is the result of equilibrium in this intrapersonal game. As an example, we present applications of affective decision-making in insurance markets, where the risk perceptions of consumers are endogenous. We derive the axiomatic foundation of affective decision making, and show that affective decision making is a model of ambiguity-seeking behavior consistent with the Ellsberg paradox.

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    File URL: http://cowles.econ.yale.edu/P/cd/d16b/d1667-r.pdf
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    Paper provided by Cowles Foundation for Research in Economics, Yale University in its series Cowles Foundation Discussion Papers with number 1667R.

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    Length: 19 pages
    Date of creation: Jun 2008
    Date of revision: Aug 2008
    Handle: RePEc:cwl:cwldpp:1667r
    Contact details of provider: Postal: Yale University, Box 208281, New Haven, CT 06520-8281 USA
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    Fax: (203) 432-6167
    Web page: http://cowles.econ.yale.edu/
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    Order Information: Postal: Cowles Foundation, Yale University, Box 208281, New Haven, CT 06520-8281 USA

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    1. Drew Fudenberg & David K. Levine, 2006. "A Dual Self Model of Impulse Control," Harvard Institute of Economic Research Working Papers 2112, Harvard - Institute of Economic Research.
    2. Markus K. Brunnermeier & Jonathan A. Parker, 2005. "Optimal Expectations," American Economic Review, American Economic Association, vol. 95(4), pages 1092-1118, September.
    3. B. Douglas Bernheim & Antonio Rangel, 2004. "Addiction and Cue-Triggered Decision Processes," American Economic Review, American Economic Association, vol. 94(5), pages 1558-1590, December.
    4. Fabio Maccheroni & Massimo Marinacci & Aldo Rustichini, 2006. "Ambiguity Aversion, Robustness, and the Variational Representation of Preferences," Econometrica, Econometric Society, vol. 74(6), pages 1447-1498, November.
    5. Roland Bénabou & Jean Tirole, 2002. "Self-Confidence And Personal Motivation," The Quarterly Journal of Economics, MIT Press, vol. 117(3), pages 871-915, August.
    6. Monderer, Dov & Shapley, Lloyd S., 1996. "Potential Games," Games and Economic Behavior, Elsevier, vol. 14(1), pages 124-143, May.
    7. Akerlof, George A & Dickens, William T, 1982. "The Economic Consequences of Cognitive Dissonance," American Economic Review, American Economic Association, vol. 72(3), pages 307-19, June.
    8. David Schmeidler, 1989. "Subjective Probability and Expected Utility without Additivity," Levine's Working Paper Archive 7662, David K. Levine.
    9. Keller, Punam Anand & Block, Lauren Goldberg, 1996. " Increasing the Persuasiveness of Fear Appeals: The Effect of Arousal and Elaboration," Journal of Consumer Research, University of Chicago Press, vol. 22(4), pages 448-59, March.
    10. Isabelle Brocas & Juan D. Carrillo, 2008. "Theories of the Mind," American Economic Review, American Economic Association, vol. 98(2), pages 175-80, May.
    11. Caplin, A. & Leahy, J., 1999. "The Supply of Information by a Concerned Expert," Working Papers 99-08, C.V. Starr Center for Applied Economics, New York University.
    12. Abraham Neyman, 1997. "Correlated Equilibrium and Potential Games," International Journal of Game Theory, Springer, vol. 26(2), pages 223-227.
    13. Caplin, Andrew & Leahy, John, 1997. "Psychological Expected Utility Theory and Anticipatory Feelings," Working Papers 97-37, C.V. Starr Center for Applied Economics, New York University.
    14. Epstein, Larry G. & Marinacci, Massimo & Seo, Kyoungwon, 2007. "Coarse contingencies and ambiguity," Theoretical Economics, Econometric Society, vol. 2(4), December.
    15. Kahneman, Daniel & Tversky, Amos, 1979. "Prospect Theory: An Analysis of Decision under Risk," Econometrica, Econometric Society, vol. 47(2), pages 263-91, March.
    16. Daniel Kahneman, 2003. "Maps of Bounded Rationality: Psychology for Behavioral Economics," American Economic Review, American Economic Association, vol. 93(5), pages 1449-1475, December.
    17. Colin F. Camerer & George Loewenstein & Drazen Prelec, 2004. "Neuroeconomics: Why Economics Needs Brains," Scandinavian Journal of Economics, Wiley Blackwell, vol. 106(3), pages 555-579, October.
    18. Botond Köszegi, 2006. "Ego Utility, Overconfidence, and Task Choice," Journal of the European Economic Association, MIT Press, vol. 4(4), pages 673-707, 06.
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