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Ellsberg`s 2-Color Experiment, Bid-Ask Behavior and Ambiguity

Sujoy Mukerji () and Jean-Marc Tallon ()

No 114, Economics Series Working Papers from University of Oxford, Department of Economics

Abstract: Results in this note relate the observation of an interval of prices at which a DM strictly prefers to hold a zero position on an asset (termed `bid-ask behavior`) to the DM`s perception of the underlying payoff relevant events as ambiguous, as the term is defined in Epstein and Zhang (2001). The connection between bid-ask behavior and ambiguity is established without invoking a parametric preference form, such as the Choquet expected utility or the max-min multiple priors model. This allows us to draw an observable distinction between bid-ask behavior that may arise purely due to first-order risk aversion type effects, such as those which could arise even if preferences were probabilistically sophisticated, and the bid-ask behavior that involve ambiguity perceptions.

Keywords: Ellsberg Paradox; bid-ask spread; testing for ambiguity aversion; uncertainty aversion; unforeseen cointingencies; subjective state spaces. (search for similar items in EconPapers)
JEL-codes: D81 (search for similar items in EconPapers)
Date: 2002-07-01
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