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Comparing Risks by Acceptance and Rejection

  • Sergiu Hart

Stochastic dominance is a partial order on risky assets (gambles) that is based on the uniform preference, of all decision-makers (in an appropriate class), for one gamble over another. We modify this, first, by taking into account the status quo (given by the current wealth) and the possibility of rejecting gambles, and second, by comparing rejections that are substantive (that is, uniform over wealth levels or over utilities). This yields two new stochastic orders: wealth-uniform dominance and utility-uniform dominance. Unlike stochastic dominance, these two orders are complete: any two gambles can be compared. Moreover, they are equivalent to the orders induced by, respectively, the Aumann-Serrano (2008) index of riskiness and the Foster-Hart (2009a) measure of riskiness.

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Paper provided by The Federmann Center for the Study of Rationality, the Hebrew University, Jerusalem in its series Discussion Paper Series with number dp531.

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Length: 39 pages
Date of creation: Feb 2010
Date of revision:
Publication status: Published in Journal of Political Economy 119 (2011), 4, 617-638
Handle: RePEc:huj:dispap:dp531
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