Risky Curves: From Unobservable Utility to Observable Opportunity Sets

Dan Friedman and Shyam Sunder

Santa Cruz Department of Economics, Working Paper Series from Department of Economics, UC Santa Cruz

Abstract: Most theories of risky choice postulate that a decision maker maximizes the expectationof a Bernoulli (or utility or similar) function. We tour 60 years of empirical search and concludethat no such functions have yet been found that are useful for out-of-sample prediction. Nor dowe find practical applications of Bernoulli functions in major risk-based industries such asfinance, insurance and gambling. We sketch an alternative approach to modeling risky choicethat focuses on potentially observable opportunities rather than on unobservable Bernoullifunctions.

Keywords: Social and Behavioral Sciences; expected utility; risk aversion; St. Petersburg Paradox; decisions under uncertainty; option theory (search for similar items in EconPapers)
Date: 2011-06-06
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Citations: View citations in EconPapers (5)

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Working Paper: Risky Curves: From Unobservable Utility to Observable Opportunity Sets (2011)
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