Reference-dependent risk attitudes

doi:10.1257/aer.97.4.1047

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Reference-dependent risk attitudes

2007-08-01

609

PRE

Koszegi, Botond *

Rabin, Matthew

DOI：10.1257/aer.97.4.1047

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Abstract

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We use Koszegi and Rabin's (2006) model of reference-dependent utility, and an extension of it that applies to decisions with delayed consequences, to study preferences over monetary risk. Because our theory equates the reference point with recent probabilistic beliefs about outcomes, it predicts specific ways in which the environment influences attitudes toward modest-scale risk. It replicates classical prospect theory-including the prediction of distaste for insuring losses-when exposure to risk is a surprise, but implies first-order risk aversion when a risk, and the possibility of insuring it, are anticipated. A prior expectation to take on risk decreases aversion to both the anticipated and additional risk. For large-scale risk, the model allows for standard consumption utility to dominate reference-dependent gain-loss utility, generating nearly identical risk aversion across situations.

Keywords:

PROSPECT-THEORY

LOSS AVERSION

DISAPPOINTMENT

DECISION

CHOICES

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