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Foundations of the Rank-Dependent Probability Weighting Function

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  • Rablen, Matthew D.

    (University of Sheffield)

Abstract

The psychological basis for rank-dependent probability weighting, and for an inverse-S probability weighting function (PWF) in particular, has often been questioned. I examine the existence and shape of the PWF in a model allowing for optimism/pessimism over probability distributions and for loss averse/gain loving stochastic reference dependence. I give commonly observed shapes of PWF a psychological interpretation. In particular, I establish a deep connection between two of the most established phenomena in decisionmaking: loss aversion and the inverse-S PWF: the former is a pre- condition for the latter.

Suggested Citation

  • Rablen, Matthew D., 2019. "Foundations of the Rank-Dependent Probability Weighting Function," IZA Discussion Papers 12701, Institute of Labor Economics (IZA).
    • Handle: RePEc:iza:izadps:dp12701
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    References listed on IDEAS

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    More about this item

    Keywords

    probability weighting; rank dependent expected utility; loss aversion; reference dependence; optimism; pessimism;
    All these keywords.

    JEL classification:

    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • D01 - Microeconomics - - General - - - Microeconomic Behavior: Underlying Principles

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