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Preferences• Optimal climate policy depends on how
we define better and best• We may want to take advise from
Socrates, Jesus, Mohammed, Lord Stern or Lady Gaga
• We may also want to measure people’s– time preference– risk aversion– inequity aversion
• But how?
Risk preference• Micro (von Neumann-Morgenstern)
• Prospect theory (Kahneman-Tversky)
• Latter approximates former• Simon would suggest people don’t
bother to be rational in low stake lottery
Ask for choice between two lotteries because peoplemay be biased towards sure things.
If someone accepts Lottery 2 for £750, then her risksensitivity must be greater than 0.9
If someone rejects Lottery 2 for £625, then her risksensitivity must be smaller than 1.2
If both, risk sensitivity lies between 0.9 and 1.2
0.1 0.2 0.3 0.4 0.5 0.6 0.7 0.8 0.9 1.0 1.1 1.2 1.3 1.4 1.5 1.6 1.7 1.8 1.9 2.0 2.1 2.2 2.3 2.4 2.5340 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 1 1 1375 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 1 1 1 1 1 1415 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 1 1 1 1 1 1 1 1 1465 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 1 1 1 1 1 1 1 1 1 1 1530 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 1 1 1 1 1 1 1 1 1 1 1 1625 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 1 1 1 1 1 1 1 1 1 1 1 1 1 1750 -1 -1 -1 -1 -1 -1 -1 -1 -1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1925 -1 -1 -1 -1 -1 -1 -1 -1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 11100 -1 -1 -1 -1 -1 -1 -1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 11500 -1 -1 -1 -1 -1 -1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 12000 -1 -1 -1 -1 -1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 15000 -1 -1 -1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 18500 -1 -1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1
-1: Lott 1 is the better deal; 1: Lott 2 is the better deal
Risk preference• Prospect theory with Prelec risk bias
• Loss aversion
• So, three parameters to be estimated
Risk preference• Voors et al., AER, 2012
– Discrete choice, 3 alternatives– Variations in pay-offs, but not probabilities– 2 lotteries: 2 obs/person
• Tanaka et al., AER, 2010– Discrete choice, 14/14/7 alternatives– Variations in pay-offs, probabilities– 3 lotteries: 3 obs/person, 1 obs/par
• Voors do not distinguish between risk aversion and amplification
• Tanaka show urns with balls to represent chances, not sure whether this captures risk amplification, eye-sight or numeracy
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geometricpresent biashyperbolic
Time preference
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disc
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geometricpresent biashyperbolic
Time preference
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0 2 4 6 8 10 12 14 16 18 20 22 24 26 28 30
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Time preference
𝐷𝐹=(1+𝑟𝑡 )− 1 , 𝛽=1∧𝜗=2
𝐷𝐹=𝑒−𝑟𝑡 , 𝛽=𝜗=1
𝐷𝐹=𝛽 (1− (1−𝜗 )𝑟𝑡 )1/1−𝜗
Time preference• Benhabib, Bisin & Schotter (2010, GEB) discount
function has 3 parameters• Voors et al., AER, 2012
– Discrete choice, 6 alternatives– 1 period, 1 sum: 1 observation per person
• Tanaka et al., AER, 2010– Discrete choice, 5 alternatives– 3 periods, 5 sums: 15 obs/person, 5 obs/par
• Ifcher & Zarghamee, AER, 2011– Open choice– 6 periods, 5 sums: 30 obs/person, 10 obs/par
• No distinction between utility, consumption, risk, time
• Commitment device implies short time horizons
Two are indifferent, presumably because of transfers
Two apply discount to child, heavier to grandchild
One applies discount to child, but not to grandchild
Inequity aversion• There is a lot of literature on fairness
– How to divide a windfall among a group of people?• Much less on equity
– What is the best income distribution in a population?• Choice experiment with leaky bucket• Any amount of risk aversion would imply an
egalitarian solution– {10000, 15000, 20000} – {9.2, 9.6, 9.9}– {12000, 15000, 18000} – {9.4, 9.6, 9.8}
• Okun: Imperfect income transfer– {10000, 15000, 20000} – {9.2, 9.6, 9.9}– {12000, 15000, 17000} – {9.4, 9.6, 9.7}
• Administration costs, incentives to work
Inequity aversion• Bergson-Samuelson
– No distinction between risk and inequity aversion
• Creedy (HARA) – Inequity aversion varies with average income
• Sen – Strong inequity aversion
• Forster – Weak inequity aversion
Sussex economists are egalitarians
Income distribution matters more for poorer societies
Wrap-up• Experiments and surveys reveal a lot about
our attitudes• But not necessarily in a tidy way that neatly
fits our theory• Revealed preferences overcome the issues
with low stakes, poor representativeness, but are always messy
• Investments in education, health, climate, pensions– Uncertain returns– Future returns– Disproportionate returns for some