Underestimation of probability modifications: characterization and economic implications
The aim of this paper is to propose a behavioral characterization of individuals who underestimate probability modifications and to characterize this behavior in the standard preferences representation models under risk (Expected utility, Dual theory, Rank Dependant Utility Theory and MaxMin Expected Utility). Our main results are the following. Underreaction to probability modifications is in general independent from standard risk aversion and prudence. In models involving probability transformation functions, it is characterized by the slope of the probability transformation function. In the MaxMin Expected utility model under risk, it is related to the weights of the maximal and minimal consequences in the preferences representation function. Considering a simple prevention decision, consisting in the reduction of the probability of a monetary loss, we show that individuals who underreact to probability modifications invest less in prevention than individuals who objectively evaluate these modifications. Underreaction to probability modification is thus a possible explanation for low investment in prevention.
|Date of creation:||2012|
|Contact details of provider:|| Postal: 200 Avenue de la République, Bât. G - 92001 Nanterre Cedex|
Web page: http://economix.fr
More information through EDIRC
References listed on IDEAS
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.:
- Wakker,Peter P., 2010.
Cambridge University Press, number 9780521765015, October.
- Wakker,Peter P., 2010. "Prospect Theory," Cambridge Books, Cambridge University Press, number 9780521748681, October.
- Adrian Bruhin & Helga Fehr-Duda & Thomas Epper, 2010. "Risk and Rationality: Uncovering Heterogeneity in Probability Distortion," Econometrica, Econometric Society, vol. 78(4), pages 1375-1412, 07.
- Adrian Bruhin & Helga Fehr-Duda & Thomas Epper, 2007. "Risk and Rationality: Uncovering Heterogeneity in Probability Distortion," SOI - Working Papers 0705, Socioeconomic Institute - University of Zurich, revised Jul 2007.
- Louis Eeckhoudt & Christian Gollier, 2005. "The impact of prudence on optimal prevention," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 26(4), pages 989-994, November.
- L. Eeckhoudt & C. Gollier, 2005. "The impact of prudence on optimal prevention," Post-Print hal-00199781, HAL.
- Quiggin, John, 1982. "A theory of anticipated utility," Journal of Economic Behavior & Organization, Elsevier, vol. 3(4), pages 323-343, December. Full references (including those not matched with items on IDEAS)
When requesting a correction, please mention this item's handle: RePEc:drm:wpaper:2012-33. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Valérie Mignon)
If references are entirely missing, you can add them using this form.