Absolute vs. Relative Notion of Wealth Changes

Kontek, Krzysztof (2009): Absolute vs. Relative Notion of Wealth Changes.

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.

• Item Type: MPRA Paper
• Language: English
• 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
• Subjects: D - Microeconomics > D0 - General > D03 - Behavioral Microeconomics: Underlying Principles; D - Microeconomics > D8 - Information, Knowledge, and Uncertainty > D81 - Criteria for Decision-Making under Risk and Uncertainty; D - Microeconomics > D0 - General > D01 - Microeconomic Behavior: Underlying Principles; D - Microeconomics > D8 - Information, Knowledge, and Uncertainty > D87 - Neuroeconomics; C - Mathematical and Quantitative Methods > C9 - Design of Experiments > C91 - Laboratory, Individual Behavior

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