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Source-Dependence of Utility and Loss Aversion: A Critical Test of Ambiguity Models

Author

Listed:
  • Mohammed Abdellaoui

    (HEC Paris and GREGHEC CNRS)

  • Han Bleichrodt

    (Erasmus University Rotterdam (EUR) - Erasmus School of Economics (ESE), the Netherlands)

  • Olivier L'Haridon

    (CREM UMR CNRS 6211 and GREGHEC, University of Rennes 1, France)

  • Dennie Van Dolder

    (Erasmus University Rotterdam (EUR) - Erasmus School of Economics (ESE))

Abstract

This paper tests whether utility is the same for risk and for uncertainty. This test is critical for models that capture ambiguity aversion through a difference in event weighting between risk and uncertainty, like the multiple priors models and prospect theory. We present a new method to measure utility and loss aversion under uncertainty without the need to introduce simplifying parametric assumptions. Our method extends Wakker and Deneffe’s (1996) trade‐off method by allowing for standard sequences that include gains, losses, and the reference point. It provides an efficient way to measure loss aversion and a useful tool for practical applications of ambiguity models. We could not reject the hypothesis that utility and loss aversion were the same for risk and uncertainty, suggesting that utility primarily reflects attitudes towards outcomes. Utility was S‐shaped, concave for gains and convex for losses and there was substantial loss aversion. Our findings support models that explain ambiguity aversion through a difference in event weighting and suggest that descriptive ambiguity models should allow for reference‐dependence of utility.

Suggested Citation

  • Mohammed Abdellaoui & Han Bleichrodt & Olivier L'Haridon & Dennie Van Dolder, 2013. "Source-Dependence of Utility and Loss Aversion: A Critical Test of Ambiguity Models," Economics Working Paper Archive (University of Rennes 1 & University of Caen) 201330, Center for Research in Economics and Management (CREM), University of Rennes 1, University of Caen and CNRS.
  • Handle: RePEc:tut:cremwp:201330
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    File URL: https://crem-doc.univ-rennes1.fr/wp/2013/201330.pdf
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    Cited by:

    1. Müller, Julia & Li, Zhihua & Wakker, Peter P. & Wang, Tong V., 2016. "The Rich Domain of Ambiguity Explored," Annual Conference 2016 (Augsburg): Demographic Change 145734, Verein für Socialpolitik / German Economic Association.
    2. Vieider, Ferdinand M. & Cingl, Lubomír & Martinsson, Peter & Stojic, Hrvoje, 2013. "Separating attitudes towards money from attitudes towards probabilities: Stake effects and ambiguity as a test for prospect theory," Discussion Papers, WZB Junior Research Group Risk and Development SP II 2013-401, Social Science Research Center Berlin (WZB).
    3. Vieider, Ferdinand M. & Truong, Nghi & Martinsson, Peter & Pham Khanh Nam & Martinsson, Peter, 2013. "Risk preferences and development revisited: A field experiment in Vietnam," Discussion Papers, WZB Junior Research Group Risk and Development SP II 2013-403, Social Science Research Center Berlin (WZB).

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    Keywords

    prospect theory; loss aversion; utility for gains and losses; probability distortion; decision analysis; risk aversion;

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