Risky Prospects Research Articles

A pandemic-related affect gap in risky decisions for self and others

ABSTRACT The early stages of the COVID-19 pandemic exposed large portions of the global populations to increased daily stressors. Research on risky choice in medical contexts suggests that affect-rich choice options promote less-advantageous decision strategies compared with affect-poor options, causing an “affect gap” in decision making. The current experiments (total N = 437, age range: 21–82) sought to test whether negative pandemic-related affect would lower expected-value (EV) maximisation within individuals. In Experiment 1, participants indicated how much they would be willing to pay to avoid specific pandemic experiences (e.g. “not being able to gather in groups”), and then chose among pairs of risky prospects that involved pandemic experiences or subjectively-equivalent monetary losses. EV maximising was lower for pandemic experiences than for equivalent monetary losses. Experiment 2 replicated this finding, and further demonstrated a moderating role of decision perspective. EV maximising was greater in decisions made for another person than in decisions made for oneself. These findings highlight potential strategies for boosting decision making under affect-rich real-world conditions.

A meta-analysis of loss aversion in risky contexts

Loss aversion is widely regarded as the most robust and ubiquitous finding in behavioural economics. According to the loss aversion hypothesis, the subjective value of losses exceeds the subjective value of equivalent gains. One common assumption in the literature is that this asymmetry represents a fundamental and stable feature of people’s preferences. In cumulative prospect theory, loss aversion is captured by the lambda (λ) parameter, which controls the steepness of the value function for losses. Estimates of λ by Tversky and Kahneman (1992) found evidence for considerable overweighting of losses in risky choice (λ = 2.25). But others find very different levels of loss aversion, with some reporting weak loss aversion or even loss neutrality. In order to assess what is the average level of λ reported in the literature, we set out to conduct a meta-analysis of studies in which λ parameter of the cumulative prospect theory was estimated from individual choices between risky prospects. We draw three conclusions. First, surprisingly few studies have estimated λ by fitting the prospect theory to individual choices between mixed gambles, and there are only a few available datasets suitable to perform model fitting. Second, much of the data are of poor quality, making it impossible to obtain precise estimates of the prospect theory’s parameters. Third, using a random-effect meta-analysis upon the available data, we found a small λ of 1.31, 95 % CI [1.10, 1.53].

Can Climate Shocks Make Vulnerable Subjects More Willing to Take Risks?

While economists in the past tended to assume that individual preferences, including risk preferences, are stable over time, a recent literature has developed and indicates that risk preferences respond to shocks, with mixed evidence on the direction of the responses. This paper utilizes a natural experiment with covariate (drought) and idiosyncratic shocks in combination with an independent field risk experiment. The risk experiment uses a Certainty Equivalent-Multiple Choice List approach and is played 1–2 years after the subjects were (to a varying degree) exposed to a covariate drought shock or idiosyncratic shocks for a sample of resource-poor young adults living in a risky semi-arid rural environment in Sub-Saharan Africa. The experimental approach facilitates a comprehensive assessment of shock effects on experimental risk premiums for risky prospects with varying probabilities of good and bad outcomes. The experiment also facilitates the estimation of the utility curvature in an Expected Utility (EU) model and, alternatively, separate estimation of probability weighting and utility curvature in three different Rank Dependent Utility models with a two-parameter Prelec probability weighting function. Our study is the first to comprehensively test the theoretical predictions of Gollier and Pratt (Econom J Econom Soc 64:1109–1123, 1996) versus Quiggin (Econ Theor 22(3):607–611, 2003). Gollier and Pratt (1996) build on EU theory and state that an increase in background risk will make subjects more risk averse while Quiggin (2003) states that an increase in background risk can enhance risk-taking in certain types of non-EU models. We find strong evidence that such non-EU preferences dominate in our sample.

Signaling trustworthiness with the choice of a prosocial project: Theory and experiment

This paper studies the conditions under which the choice of a prosocial project signals trustworthiness and thereby increases financial transfers by investors. Results from theory and a laboratory experiment show that when there is a choice between a purely financial project and a prosocial project, the choice of the latter leads to higher transfers from investors, higher engagement in the risky prospect, and higher returns to investors, making the prosocial behavior a valid signal of trustworthiness. The prosocial expense signals trustworthiness as long as it is not too costly. The fact that entrepreneurs reduce the prosocial expense when it is visible to investors suggests that they believe that too high a spillover may have a deterrent effect. Entrepreneurs who believe that the investor shares an interest in prosocial projects choose higher levels of prosocial spending. The experiment controls for the role of fiscal subsidies typically used to promote such prosocial projects as such extrinsic motivations may lead to signal dilution. The results show that fiscal subsidies are effective in increasing the propensity to choose such projects. Furthermore, under fiscal subsidies, the signaling mechanism remains at work, as the levels of prosocial expense are maintained which suggests concerns about potential signal dilution.

A contextual range-dependent model for choice under risk

We introduce a context-dependent theory for choice under risk, called range utility theory. It builds on Parducci’s range principle from psychophysics and modifies expected utility by positing that risky prospects are evaluated relative to the range of consequences of all prospects in the decision context. When the context is fixed, choices typically exhibit the four-fold pattern of risk preferences, yet are fully consistent with expected utility (linear in probabilities) without invoking rank-principles. We illustrate this advantage in game theory contexts. As the same time, when the context varies, the relative value of an alternative also does, yielding different forms or preference reversals, some of which have been robustly documented.

Risk sources in agriculture and farmers’ behavior in risky prospects: a systematic review

PurposeThe agricultural sector is a critical component of global economic development, and its significance has grown significantly in recent years. The risks associated with agriculture and the behaviors of farmers in handling these risks are becoming increasingly important, given the sector’s increasing dependence worldwide. Various activities related to agriculture are vulnerable to multiple risks, which can have severe consequences for farmers’ livelihoods. The purpose of this systematic review is to present a comprehensive analysis of the sources of risk faced by farmers and their choices in adopting risk management strategies worldwide.Design/methodology/approachThe Preferred Reporting Items for Systematic reviews and Meta-Analyses protocol was utilized to select relevant literature, and a total of 102 studies were analyzed. Through the use of Venn diagrams and graphical methods, the authors provide a transparent overview of the risks faced by farmers and the adoption of risk management strategies in developed and developing countries.FindingsFrom the analysis, the authors found that, in terms of risk management strategies, diversification, reserve credit and accumulated assets are frequently used in developing countries, while developed countries tend to rely on future/forward contracts, crop insurance and hedging. Diversification is the most widely used risk management strategy across both developed and developing countries. Our study also highlights the different perceptions of weather-related risks among growers in developed and developing countries.Practical implicationsThis systematic review provides valuable insights into the risks associated with agriculture and farmers' strategies in managing these risks, which could inform policy decisions and promote sustainable agricultural practices. For instance, understanding the individualistic nature of farmers' risk perception and the varying risk sources and management strategies depending on the locality and provide assistance to the farmers accordingly.Originality/valueThe paper explains how farmers behave during uncertainty in terms of risk perception and their decision to adopt risk management strategies in developed and developing countries.

Adaptive risk assessments

We model a decision maker who can exert costly effort to adapt her risk assessments, thereby optimizing the value of her risky prospects. We provide an axiomatic characterization of the model and show how costs of adaption can be elicited and compared across individuals. In a moral hazard problem, we show that adapting risk assessments can weaken the effect of monetary incentives for effort provision, which has important implications for agency problems. We provide several examples to illustrate how adapting risk assessments can rationalize many well-known choice anomalies.

Clarifying the role of an unavailable distractor in human multiattribute choice.

Decisions between two economic goods can be swayed by a third unavailable 'decoy' alternative, which does not compete for choice, notoriously violating the principles of rational choice theory. Although decoy effects typically depend on the decoy's position in a multiattribute choice space, recent studies using risky prospects (i.e., varying in reward and probability) reported a novel 'positive' decoy effect operating on a single value dimension: the higher the 'expected value' (EV) of an unavailable (distractor) prospect was, the easier the discrimination between two available target prospects became, especially when their expected-value difference was small. Here, we show that this unidimensional distractor effect affords alternative interpretations: it occurred because the distractor's EV covaried positively with the subjective utility difference between the two targets. Looking beyond this covariation, we report a modest 'negative' distractor effect operating on subjective utility, as well as classic multiattribute decoy effects. A normatively meaningful model (selective integration), in which subjective utilities are shaped by intra-attribute information distortion, reproduces the multiattribute decoy effects, and as an epiphenomenon, the negative unidimensional distractor effect. These findings clarify the modulatory role of an unavailable distracting option, shedding fresh light on the mechanisms that govern multiattribute decisions.

The Association between Farmers’ Psychological Factors and Their Choice to Adopt Risk Management Strategies: The Case of Pakistan

Agriculture is a risky business, and risk persists in all management decisions taken by a farmer at the farm level. Disrupting agricultural business severely affects the livelihood of individual farmers and negatively affects the country’s economy. To cope with risks, farmers’ tend to mitigate the harsh impact of risks by adopting risk management strategies. Such an adoption decision is affected by several factors, most importantly, the psychological factors, i.e., risk perception and risk attitude of the farmer. Therefore, the purpose of the study is to understand farmers’ risk perception and risk attitude that affect their behaviour in making decisions at the farm level in a risky prospect. The association is investigated by employing chi-squared tests and Cramér’s V. The indirect impact of socioeconomic characteristics of the farmer via their psychological factors is conducted using structural equation model (SEM) path analysis. Their direct impact, together with psychological factors, are examined using the probit model. The two models are compared statistically for better performance and interpretations of the results. From the results, we found that risk perception and risk attitude are the key driving forces of farmers’ decisions during uncertainty which induce them to adopt risk management strategies. Other key variables and their quadratic functions that significantly affect farmers’ behaviour include education level, farming experience, off-farm income, and farm size. Thus, it is vital to consider these factors while assessing farmers’ behaviour in a risky prospect.

On reference dependence and complementary symmetry

This paper reevaluates the complementary symmetry property and the corresponding experimental evidence. Originally the property was stated for binary risky prospects. We generalize it to arbitrary state-contingent real-valued outcomes, thus extending the domain of choice from risk to uncertainty/ambiguity and allowing for multiple outcomes. We consider various observable tasks related to the elicitation of buying and selling prices. In particular, for selected reference point models, we derive relevant definitions of gains and losses, and identify pairs of prices satisfying the complementary symmetry property. We then run an experiment to test these new predictions, and find that while some reference point models can be refuted based on our data, others perform reasonably well.

Ex-Ante Prioritarianism Violates Sequential Ex-Ante Pareto

AbstractPrioritarianism is a variant of utilitarianism. It differs from utilitarianism in that benefiting individuals matters more the worse off these individuals are. On this view, there are two standard ways of handling risky prospects: Ex-Post Prioritarianism adjusts for prioritizing the worse off in final outcomes and then values prospects by the expectation of the sum total of those adjusted values, whereas Ex-Ante Prioritarianism adjusts for prioritizing the worse off on each individual's expectation and then values prospects by the sum total of those adjusted expectations. A standard objection to Ex-Post Prioritarianism is that it violates Ex-Ante Pareto, that is, it prescribes choices that worsen the expectations for everyone. In this article, I argue that Ex-Ante Prioritarianism suffers from much the same problem: it violates a sequential version of Ex-Ante Pareto, that is, it prescribes sequences of choices that worsen the expectations for everyone.

Elicitation of risk preferences through satisficing

Financial institutions across the globe are now required to measure how much risk their clients are willing to accept. Despite its importance, there is no consensus on how to assess risk attitudes in providing adequate and legally compliant financial services. The standard approaches have been challenged. Recently, financial regulators have begun to focus on the worst possible scenario: Retail investors should be inquired about how much loss they are willing and able to bear. We examine the satisficing method, a recent approach that brings the worst possible scenario to the center of the risk-preference assessment. This method involves asking participants to state the minimum returns they are willing to accept given a portfolio comprising a safe and a risky prospect. The stated minimum returns are a measure of risk preference. We observe that this measure correlates well with existing measures of risk preference, has high test–retest reliability while capturing high response variation, and predicts investments in stock or mutual funds.

Increased risk-taking, not loss tolerance, drives adolescents’ propensity to choose risky prospects more often under peer observation

Relative to adults, adolescents make more welfare-decreasing decisions, especially in the presence of peers. The consequences of these decisions result in substantial individual and societal losses in terms of lives lost, injury, hospitalization costs, and foregone opportunities. In this paper, we use laboratory within-subject and between-subject experiments with younger (12–17 years old) and older (18–24 years old) adolescents to identify which economic preference is affected by peer observation in adolescence — risk tolerance in gains, risk tolerance in losses, and/or loss aversion. We find that in our study, while observed by peers, 18–24-year-old adolescents became more risk-tolerant both in gains and in losses but more loss averse. We discuss the potential mechanisms driving the result and its policy implications.

Do personal values explain variation in satisficing measures of risk?

PurposeThe role of personal value systems as antecedents to risk has been largely ignored. Following Gigerenzer's view of ecological rationality, the authors argue an individual's personal value system serves as concrete motivations that guide risky choices and facilitate adaptation to one's environment.Design/methodology/approachThe authors elicit risk attitudes using a satisficing-based risk elicitation method that exploits the idea of worst-case aspiration or minimum portfolio returns given a portfolio comprising a safe and risky prospect. The elicited worst-case aspiration allows for more descriptive and natural ways of characterizing attitudes to risk (i.e. satisficing measures of risk). Using the Schwartz Value Survey, the authors assess the relative importance individuals place on value systems, such as personal focus versus social focus. The authors argue that preference to value systems has linkages with the worst-case aspiration setting emphasized in the satisficing task.FindingsThis study’s findings suggest that individuals who are willing to give up higher potential returns to protect their downside risk (by setting higher worst-case aspiration) are positively associated with personal focus—concern about own outcomes than social focus—concern about the outcomes for others or established institutions.Research limitations/implicationsCurrently, the study’s setting is in the domain of financial decision-making. Going forward, milestones could be set for studying risky real-world choices by simply changing the risk measure in different contexts, such as job choices, education, health and social interactions.Originality/valueThis study contributes to the discussion on the psychometric structure of risk. Prescriptive benefits of satisficing as a positive heuristic, which is interpreted as setting achievable goals or aspiration levels, are extensive and recognized in various industries ranging from agriculture, airlines, insurance to financial advising. More recently, cognitive processes, such as emotions and personal value systems, are recognized as a type of social cognition that subserve heuristic functions that can guide behavior quickly and accurately.

Natural hazard, employment uncertainty, and the choice of labor contracts

This paper explores how contractual arrangements emerge in labor markets in response to two risky prospects that employers might face, namely production failure from natural hazard conditions and that from worker non-availability. Modeling the process of contract determination as a dynamic game of symmetric but imperfect information in the presence of power asymmetry between employers and workers, the paper posits, when workers have alternative employment opportunities, and employers seek to avoid labor shortage, employers would choose a ‘fixed’ rather than a ‘variable’ contract and bear the risk of supporting the hired workers even if hazardous conditions may realize later in nature.

Proxy Measures for the Welfare Change Between Risky Income Prospects

I derive an approximation for the welfare change between two risky income prospects. For two special cases, constant absolute risk-aversion and constant relative risk-aversion, one can give an exact expression for the welfare change. At core, the exact and the approximate expressions for the welfare change build on the change in the certainty equivalent between the two risky income prospects. These results are useful for both theoretical and empirical work on risk valuation, as they provide simple and easy-to-use proxies.

The Uncertain Value of Uncertainty: When Consumers Are Unwilling to Pay for What They Like

Do people have an irrational dislike for risk? People pay less for uncertain prospects than their worst possible outcomes, and researchers have proposed that this effect occurs because people strongly dislike risk. We challenge this proposition across seven studies. Though people seem to irrationally dislike risky prospects when preference is assessed with open-ended pricing measures, such as willingness-to-pay, people display rational responses toward risky prospects when preference is assessed using rating measures, such as ratings of expected enjoyment. This discrepancy does not seem to arise because these measures (a) focus on different components of the uncertainty, (b) rely on context-dependent versus normed scales, or (c) involve voluntarily opting into an uncertain situation. Accordingly, we find that people also display rational responses toward risky prospects with time measures (i.e., willingness-to-wait and anticipated time usage) and choice. We discuss alternative explanations and crucial implications of our effects for both theory and application. This paper was accepted by Yuval Rottenstreich, judgment and decision making.

The intrinsic value of risky prospects

We study the representation of attitudes to risk in Jeffrey’s (The logic of decision, University of Chicago Press, Chicago, 1965) decision-theoretic framework suggested by Stefansson and Bradley (Philos Sci 82(4):602–625, 2015; Br J Philos Sci 70(1):77–102, 2017) and Bradley (Econ Philos 32(2):231–248, 2016; Decisions theory with a human face, Cambridge University Press, Cambridge, 2017). We show that on this representation, the value of any prospect may be expressed as a sum of two components, the prospect’s instrumental value (the value the prospect has only in virtue of the outcomes it might lead to) and the prospect’s intrinsic value (the value the prospect has only in virtue of the way it assigns different probabilities to the different outcomes). Both components have an expectational form. We also make a distinction between a prospect’s overall intrinsic value and a prospect’s conditional intrinsic value given each one of its possible outcomes and argue that this distinction has great explanatory power. We explore the relation between these two types of intrinsic values and show that they are determined at the level of preferences. Finally, we explore the relation between the intrinsic values of different prospects and point to a strong restriction on this relation that is implicit in Jeffrey’s axioms. We suggest a natural interpretation to this restriction.

A decision-making framework based on prospect theory with probabilistic linguistic term sets

In real-world decisions, we often encounter situations when decision-makers’ (DMs’) preferences can only be expressed as uncertain linguistic terms instead of crisp values. Similarly, when decisions involving several risky prospects with linguistic outcome information, it is a challenge to properly calculate the corresponding prospect values. To address this issue, this paper proposes a decision-making framework based on prospect theory where the outcomes are characterized by probabilistic linguistic term sets (PLTSs). The key contributions of this research are twofold: Firstly, it allows DMs to express their assessment of outcomes in terms of linguistic terms with interval probabilities. Secondly, it furnishes a paradigm to extend prospect theory to accommodate other forms of fuzzy and linguistic input. To begin with, this paper first presents different types of PLTSs. Then, gains and losses are calculated based on the positive and negative reference points and the operation rules of PLTSs. In accordance with the value and probability weight functions, the weighted prospect values are determined. Finally, we apply the decision-making framework to a practical case to illustrate its feasibility under linguistic environment.

On Complementary Symmetry and Reference Dependence

This paper reevaluates the complementary symmetry hypothesis and the supporting experimental evidence. Originally the hypothesis was stated for binary risky prospects. We generalize the hypothesis to arbitrary state-contingent real-valued acts, thus extending the domain from risk to uncertainty/ambiguity and allowing for multiple outcomes. Existing experiments tested the hypothesis using selling and buying prices and found systematic violations. We argue that in order to be consistent with the hypothesis one should replace selling with short-selling. We thus define a new elicitation task and run an experiment to test our conjecture. We replicate previously observed violations in the old setting and find strong support for the hypothesis in the new setting. In addition, our results shed new light on the validity of various reference point setting rules.