Loss aversion at the aggregate level across countries and its relation to economic fundamentals

Abstract

Preferences are important when thinking about macroeconomic problems and questions. Differences in preferences might, for example, explain cross-country variations in economic fundamentals.In recent years, differences in preferences across countries and cultures have been studied more frequently, usually concentrating on micro evidence. However, it is an open question as to how differences in average preferences affect the aggregate economy. Coming from a macroeconomic perspective, we test whether preferences stated in Kahneman and Tversky’s prospect theory, namely, reference point dependence and loss aversion, prevail on the aggregate and whether the average degree of loss aversion differs across countries.We find evidence of loss aversion for a broad set of OECD countries, while the average loss aversion clearly differs across these countries. We find little evidence that these differences could be linked to micro evidence. Furthermore, we analyse whether the different degrees of loss aversion correlate with economic fundamentals such as the level of GDP and consumption per capita. We find that indeed loss aversion is negatively correlated with GDP and consumption per capita and positively correlated with consumption smoothing.