Buying and selling price for risky lotteries and expected utility theory with gambling wealth

Michal Lewandowski

Journal of Risk and Uncertainty, 2014, vol. 48, issue 3, 253-283

Abstract: I analyze two expected utility models which abandon the consequentialist assumption of terminal wealth positions. In the expected utility of gambling wealth model, in which initial wealth is allowed to be small, I show that a large WTA/WTP gap is possible and the (Rabin in Econometrica, 68(5), 1281–1292, 2000 ) paradox may be resolved. Within the same model the classical preference reversal which allows arbitrage is not possible, whereas preference reversal (involving buying prices in place of selling prices), which does not allow arbitrage, is possible. In the expected utility of wealth changes model, in which there is no initial wealth, I show that both a WTA/WTP gap as well as the classical preference reversal are possible due to loss aversion, both in its general as well as some specific forms. Copyright The Author(s) 2014

Keywords: Expected utility; Narrow framing; Rabin (2000) paradox; Preference reversal; WTA/WTP disparity; Buying and selling price for a lottery; D81; D03; C91 (search for similar items in EconPapers)
Date: 2014
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Citations: View citations in EconPapers (8)

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DOI: 10.1007/s11166-014-9191-2

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