Range-Dependent Utility

43 Pages Posted: 10 Aug 2013

See all articles by Krzysztof Kontek

Krzysztof Kontek

Warsaw School of Economics (SGH)

Michał Lewandowski

Warsaw School of Economics (SGH) - Institute of Econometrics

Date Written: August 9, 2013

Abstract

This paper introduces the concept of range-dependent utility. Instead of reference dependence which evaluates outcomes relative to some reference point, we postulate dependence on a given lottery (set of lotteries) outcomes range. In this way the decision maker is a fully rational expected utility maximizer only within a certain range. Range-dependent utility enables experimental results to be explained without recourse to the probability weighting function. Experimental data show that range-dependent utilities can be normalized to obtain decision utility -- a single utility function able to describe decisions involving lotteries denied over different ranges. Both the data analysis as well as theoretical considerations concerning monotonicity indicate that the decision utility should be of S-shape.

Keywords: range-dependent utility, decision utility, Certainty Equivalent, quasilinear mean, Expected Utility Theory, Prospect Theory, Allais paradox, insurance and gambling

JEL Classification: D81, D03, C91

Suggested Citation

Kontek, Krzysztof and Lewandowski, Michał, Range-Dependent Utility (August 9, 2013). Available at SSRN: https://ssrn.com/abstract=2307858 or http://dx.doi.org/10.2139/ssrn.2307858

Krzysztof Kontek (Contact Author)

Warsaw School of Economics (SGH) ( email )

aleja Niepodleglosci 162
PL-Warsaw, 02-554
Poland

Michał Lewandowski

Warsaw School of Economics (SGH) - Institute of Econometrics ( email )

Niepodleglosci 164
Warsaw, 02-554
Poland

HOME PAGE: http://www.sgh.waw.pl/mlewandowski

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