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Objective Lotteries as Ambiguous Objects: Allais, Ellsberg, and Hedging

Dean, Mark and Ortoleva, Pietro (2011) Objective Lotteries as Ambiguous Objects: Allais, Ellsberg, and Hedging. Social Science Working Paper, 1356. California Institute of Technology , Pasadena, CA. (Unpublished)

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We derive axiomatically a model in which the Decision Maker can exhibit simultaneously both the Allais and the Ellsberg paradoxes in the standard setup of Anscombe and Aumann (1963). Using the notion of ‘subjective’, or ‘outcome’ mixture of Ghirardato et al. (2003), we define a novel form of hedging for objective lotteries, and introduce a novel axiom which is a generalized form of preferences for hedging. We show that this axiom, together with other standard ones, is equivalent to a represen- tation in which the agent reacts to ambiguity using multiple priors like the MaxMin Expected Utility model of Gilboa and Schmeidler (1989), generating an Ellsberg-like behavior, while at the same time, she treats also objective lotteries as ‘ambiguous objects,’ and use a fixed (and unique) set of priors to evaluate them – generating an Allais-like behavior. We show that this representation is equivalent to one in which the agent evaluates lotteries using a set of concave rank-dependent utility functionals. A comparative notion of preference for hedging is also introduced.

Item Type:Report or Paper (Working Paper)
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Additional Information:First WP October 2011, revised June 2012. We would like to thank Simone Cerreia-Vioglio, David Dillengerger, Federico Echenique, Paolo Ghirardato, Anna Gumen, Edi Karni, Peter Klibanoff, Fabio Maccheroni, Massimo Marinacci, Stefania Minardi, Efe Ok, Leonardo Pejsachowicz, Philipp Sadowski, Todd Sarver, Andrei Savochkin, Kyoungwon Seo, Marciano Siniscalchi, and the participants of seminars at Bocconi University and Northwestern University for very useful comments and suggestions.
Group:Social Science Working Papers
Subject Keywords:Allais Paradox, Ellsberg Paradox, Hedging, Multiple Priors, Subjective Mixture, Probability Weighting, Rank Dependent Expected Utility
Series Name:Social Science Working Paper
Issue or Number:1356
Classification Code:JEL: D81
Record Number:CaltechAUTHORS:20170727-103944043
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Usage Policy:No commercial reproduction, distribution, display or performance rights in this work are provided.
ID Code:79488
Deposited By: Hanna Storlie
Deposited On:02 Aug 2017 21:43
Last Modified:03 Oct 2019 18:20

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