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Lottery Qualities

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Listed:
  • Yves Alarie
  • Georges Dionne

Abstract

The aim of this paper is to propose a model of decision-making for lotteries. Lottery qualities are the key concepts of the theory. Qualities allow the derivation of optimal decision-making processes and are taken explicitly into account for lottery evaluation. Our contribution explains the major violations of the expected utility theory for decisions on two-point lotteries and shows the necessity of giving explicit consideration to lottery qualities. Judged certainty equivalent and choice certainty equivalent concepts are discussed in detail along with the comparison of lotteries. Examples are provided by using different test results in the literature.

Suggested Citation

  • Yves Alarie & Georges Dionne, 2006. "Lottery Qualities," Cahiers de recherche 0617, CIRPEE.
    • Handle: RePEc:lvl:lacicr:0617
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    References listed on IDEAS

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    1. Luce, R Duncan & Mellers, Barbara A & Chang, Shi-jie, 1993. "Is Choice the Correct Primitive? On Using Certainty Equivalents and Reference Levels to Predict Choices among Gambles," Journal of Risk and Uncertainty, Springer, vol. 6(2), pages 115-143, April.
    2. Tversky, Amos & Kahneman, Daniel, 1992. "Advances in Prospect Theory: Cumulative Representation of Uncertainty," Journal of Risk and Uncertainty, Springer, vol. 5(4), pages 297-323, October.
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    4. Tversky, Amos & Slovic, Paul & Kahneman, Daniel, 1990. "The Causes of Preference Reversal," American Economic Review, American Economic Association, vol. 80(1), pages 204-217, March.
    5. Bostic, Raphael & Herrnstein, R. J. & Luce, R. Duncan, 1990. "The effect on the preference-reversal phenomenon of using choice indifferences," Journal of Economic Behavior & Organization, Elsevier, vol. 13(2), pages 193-212, March.
    6. Alarie, Yves & Dionne, Georges, 2004. "On the necessity of using lottery qualities," Working Papers 04-3, HEC Montreal, Canada Research Chair in Risk Management.
    7. Daniel Kahneman & Amos Tversky, 2013. "Prospect Theory: An Analysis of Decision Under Risk," World Scientific Book Chapters, in: Leonard C MacLean & William T Ziemba (ed.), HANDBOOK OF THE FUNDAMENTALS OF FINANCIAL DECISION MAKING Part I, chapter 6, pages 99-127, World Scientific Publishing Co. Pte. Ltd..
    8. Leland, Jonathan W, 1994. "Generalized Similarity Judgments: An Alternative Explanation for Choice Anomalies," Journal of Risk and Uncertainty, Springer, vol. 9(2), pages 151-172, October.
    9. Alarie, Yves & Dionne, Georges, 2001. "Lottery Decisions and Probability Weighting Function," Journal of Risk and Uncertainty, Springer, vol. 22(1), pages 21-33, January.
    10. George Wu & Richard Gonzalez, 1996. "Curvature of the Probability Weighting Function," Management Science, INFORMS, vol. 42(12), pages 1676-1690, December.
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    12. Drazen Prelec, 1998. "The Probability Weighting Function," Econometrica, Econometric Society, vol. 66(3), pages 497-528, May.
    13. McFadden, Daniel, 1999. "Rationality for Economists?," Journal of Risk and Uncertainty, Springer, vol. 19(1-3), pages 73-105, December.
    14. Daniel Kahneman, 2003. "Maps of Bounded Rationality: Psychology for Behavioral Economics," American Economic Review, American Economic Association, vol. 93(5), pages 1449-1475, December.
    15. Machina, Mark J, 1987. "Choice under Uncertainty: Problems Solved and Unsolved," Journal of Economic Perspectives, American Economic Association, vol. 1(1), pages 121-154, Summer.
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    Cited by:

    1. Alarie, Yves & Dionne, Georges, 2005. "Testing explanations of preference reversal: A model," Working Papers 05-2, HEC Montreal, Canada Research Chair in Risk Management.
    2. Kent Grote & Victor Matheson, 2011. "The Economics of Lotteries: An Annotated Bibliography," Working Papers 1110, College of the Holy Cross, Department of Economics.

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    More about this item

    Keywords

    Lottery choice; common ratio; preference reversal; pricing; lottery test; cognitive process; certainty equivalent;
    All these keywords.

    JEL classification:

    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty

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