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Absolute vs. Relative Notion of Wealth Changes

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  • Kontek, Krzysztof

Abstract

This paper discusses solutions derived from lottery experiments using two alternative assumptions: that people perceive wealth changes as absolute amounts of money; and that people consider wealth changes as a proportion of some reference value dependant on the context of the problem under consideration. The former assumption leads to the design of Prospect Theory, the latter - to a solution closely resembling the utility function hypothesized by Markowitz (1952). This paper presents several crucial arguments for the latter approach and provides strong arguments for rejecting the Prospect Theory paradigm.

Suggested Citation

  • Kontek, Krzysztof, 2009. "Absolute vs. Relative Notion of Wealth Changes," MPRA Paper 17336, University Library of Munich, Germany.
    • Handle: RePEc:pra:mprapa:17336
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    File URL: https://mpra.ub.uni-muenchen.de/33134/2/MPRA_paper_33134.pdf
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    References listed on IDEAS

    as
    1. 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.
    2. Harry Markowitz, 1952. "The Utility of Wealth," Journal of Political Economy, University of Chicago Press, vol. 60(2), pages 151-151.
    3. Krzysztof Kontek, 2009. "Lottery valuation using the aspiration / relative utility function," Working Papers 39, Department of Applied Econometrics, Warsaw School of Economics.
    4. Richard H. Thaler, 2008. "Mental Accounting and Consumer Choice," Marketing Science, INFORMS, vol. 27(1), pages 15-25, 01-02.
    5. 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..
    6. Kontek, Krzysztof, 2009. "On Mental Transformations," MPRA Paper 16516, University Library of Munich, Germany.
    Full references (including those not matched with items on IDEAS)

    Citations

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    Cited by:

    1. Kontek, Krzysztof, 2010. "Mean, Median or Mode? A Striking Conclusion From Lottery Experiments," MPRA Paper 21758, University Library of Munich, Germany.
    2. Kontek, Krzysztof, 2009. "The Illusion of Irrationality," MPRA Paper 19044, University Library of Munich, Germany.

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    More about this item

    Keywords

    Prospect / Cumulative Prospect Theory; Probability Weighting Function; Markowitz Hypothesis; Aspiration / Relative Utility Function / Theory; Mental Accounts; Problem Framing and Scaling; Psychophysics; Weber’s Law; Experimental Design; Lottery; Decision Making Under Risk;
    All these keywords.

    JEL classification:

    • D03 - Microeconomics - - General - - - Behavioral Microeconomics: Underlying Principles
    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • D01 - Microeconomics - - General - - - Microeconomic Behavior: Underlying Principles
    • D87 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Neuroeconomics
    • C91 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Individual Behavior

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