A revealed reference point for prospect theory

Katarzyna Werner and Horst Zank ()
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Horst Zank: University of Manchester

Economic Theory, 2019, vol. 67, issue 4, No 1, 773 pages

Abstract: Abstract Without an instrument to identify the reference point, prospect theory includes a degree of freedom that makes the model difficult to falsify. To address this issue, we propose a foundation for prospect theory that advances existing approaches with three innovations. First, the reference point is not known a priori; if preferences are reference-dependent, the reference point is revealed from behavior. Second, the key preference axiom is formulated as a consistency property for attitudes toward probabilities; it entails both a revealed preference test for reference-dependence and a tool suitable for empirical measurement. Third, minimal assumptions are imposed for outcomes, thereby extending the model to general settings. By incorporating these three features we deliver general foundations for prospect theory that show how reference points can be identified and how the model can be falsified.

Keywords: Probability midpoint; Prospect theory; Rank-dependence; Reference point; Sign-dependence (search for similar items in EconPapers)
JEL-codes: D03 D81 (search for similar items in EconPapers)
Date: 2019
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Citations: View citations in EconPapers (13)

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DOI: 10.1007/s00199-017-1096-2

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