Risk-neutral firms can extract unbounded profits from consumers with prospect theory preferences

Eduardo Azevedo and Daniel Gottlieb ()

Journal of Economic Theory, 2012, vol. 147, issue 3, 1291-1299

Abstract: This paper considers the problem of a risk-neutral firm offering a gamble to consumers with preferences given by prospect theory. Under conditions satisfied by virtually all functional forms used in the literature, firms can extract arbitrarily high expected values from consumers. Moreover, for any given lottery, there exists another lottery that makes both the firm and the consumer better off. As a consequence, equilibria and Pareto optimal allocations do not exist in standard monopolistic or competitive models.

Keywords: Prospect theory; Dutch books; Equilibrium existence; Insurance markets (search for similar items in EconPapers)
JEL-codes: D03 D81 (search for similar items in EconPapers)
Date: 2012
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (17)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jetheo:v:147:y:2012:i:3:p:1291-1299

DOI: 10.1016/j.jet.2012.01.002

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