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Standard Risk Aversion and Efficient Risk Sharing

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  • Suen, Richard M. H.

Abstract

This paper analyzes the risk attitude and investment behavior of a group of heterogeneous consumers who face an undesirable background risk. It is shown that standard risk aversion at the individual level does not imply standard risk aversion at the group level under efficient risk sharing. This points to a potential divergence between individual and collective investment choices in the presence of background risk. We show that if the members' absolute risk tolerance is increasing and satisfies a strong form of concavity, then the group has standard risk aversion.

Suggested Citation

  • Suen, Richard M. H., 2018. "Standard Risk Aversion and Efficient Risk Sharing," MPRA Paper 86499, University Library of Munich, Germany.
  • Handle: RePEc:pra:mprapa:86499
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    File URL: https://mpra.ub.uni-muenchen.de/86499/1/MPRA_paper_86499.pdf
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    References listed on IDEAS

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    1. Laurent E. Calvet & Paolo Sodini, 2014. "Twin Picks: Disentangling the Determinants of Risk-Taking in Household Portfolios," Journal of Finance, American Finance Association, vol. 69(2), pages 867-906, April.
    2. Patricia Apps & Yuri Andrienko & Ray Rees, 2014. "Risk and Precautionary Saving in Two-Person Households," American Economic Review, American Economic Association, vol. 104(3), pages 1040-1046, March.
    3. Luigi Guiso & Monica Paiella, 2008. "Risk Aversion, Wealth, and Background Risk," Journal of the European Economic Association, MIT Press, vol. 6(6), pages 1109-1150, December.
    4. Hara, Chiaki & Huang, James & Kuzmics, Christoph, 2007. "Representative consumer's risk aversion and efficient risk-sharing rules," Journal of Economic Theory, Elsevier, vol. 137(1), pages 652-672, November.
    5. Caplin, Andrew & Nalebuff, Barry, 1991. "Aggregation and Social Choice: A Mean Voter Theorem," Econometrica, Econometric Society, vol. 59(1), pages 1-23, January.
    6. Pratt, John W & Zeckhauser, Richard J, 1987. "Proper Risk Aversion," Econometrica, Econometric Society, vol. 55(1), pages 143-154, January.
    7. Christian Gollier, 2001. "Wealth Inequality and Asset Pricing," Review of Economic Studies, Oxford University Press, vol. 68(1), pages 181-203.
    8. Kimball, Miles S, 1993. "Standard Risk Aversion," Econometrica, Econometric Society, vol. 61(3), pages 589-611, May.
    9. Christian Ewerhart, 2013. "Regular type distributions in mechanism design and $$\rho $$ -concavity," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 53(3), pages 591-603, August.
    10. Gollier, Christian & Pratt, John W, 1996. "Risk Vulnerability and the Tempering Effect of Background Risk," Econometrica, Econometric Society, vol. 64(5), pages 1109-1123, September.
    Full references (including those not matched with items on IDEAS)

    More about this item

    Keywords

    Standard risk aversion; Efficient risk sharing; Background risk; Portfolio choice.;

    JEL classification:

    • D70 - Microeconomics - - Analysis of Collective Decision-Making - - - General
    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions

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