An Intertemporal Preference with Loss Aversion: Consumption and Risk Attitude

39 Pages Posted: 23 Oct 2019 Last revised: 6 Dec 2019

See all articles by Kyoung Jin Choi

Kyoung Jin Choi

University of Calgary - Haskayne School of Business

Junkee Jeon

Kyung Hee University - Department of Applied Mathematics

Hyeng Keun Koo

Ajou University - Department of Business Administration

Date Written: December 4, 2019

Abstract

We investigate the consumption and portfolio selection problem of an agent who faces the partial irrreversibility of consumption decisions, formalizing the classic theory proposed by Duesenberry (1949). Consumption irreversibility is modeled by mental utility costs. The derived preference exhibits intertemporal loss aversion (ILA) toward consumption changes in the sense that the reference point turns out to be the previous consumption level in time. The consumption policy involves an inaction interval for the consumption-wealth ratio, which can explain the four stylized facts about consumption: excess smoothness, excess sensitivity, their disappearance for large shocks, and asymmetric sensitivities to wealth (income) shocks. The implied risk aversion increases with ILA except at the boundary of the inaction interval, which generates time-varying risk aversion that can exhibit sometimes extreme risk aversion and at other times fairly low risk aversion.

Keywords: intertemporal preference, loss aversion, risk aversion, consumption ratcheting, irreversibility of consumption decision

JEL Classification: C61, D11, D15, E21, G11

Suggested Citation

Choi, Kyoung Jin and Jeon, Junkee and Koo, Hyeng Keun, An Intertemporal Preference with Loss Aversion: Consumption and Risk Attitude (December 4, 2019). Available at SSRN: https://ssrn.com/abstract=3469765 or http://dx.doi.org/10.2139/ssrn.3469765

Kyoung Jin Choi (Contact Author)

University of Calgary - Haskayne School of Business ( email )

2500 University Drive, NW
Calgary, Alberta T2N 1N4
Canada

HOME PAGE: http://sites.google.com/site/kyoungjinchoiecon/

Junkee Jeon

Kyung Hee University - Department of Applied Mathematics ( email )

1732 Deogyeong-daero, Giheung-gu,
Yongin, 130-701
Korea, Republic of (South Korea)

Hyeng Keun Koo

Ajou University - Department of Business Administration ( email )

206 Worldcup-ro
Yeongtong-gu
Suwon, 443-749
Korea, Republic of (South Korea)

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