additional aspects of rational insurance purchasing the purchase of insurance provides an individual with the ability to shift risk associated with either timeless or temporal uncertain prospects see dreze and modigliani 1972 previous insurance decision analysis can be further divided into cases in which the insurance contract is exogenously specified see mossin 1968 smith 1968 and cases in which the optimal form of contract is to be determined see raviv 1979 brennan and solanki 1981 this note is concerned with extending some of the results for timeless uncertain prospects with the insurance contract exogenously specified many of the properties associated with the purchase of insurance for timeless uncertain prospects are analyzed by mossin 1968 for different forms of contracts see also gould 1969 utilizing the arrow pratt measure of absolute risk aversion the effect of wealth upon the optimal amount of insurance is determined for the different forms of contracts recent work by ross 1981 demonstrates that in situations where individuals face more than one timeless uncertain prospect and they can purchase insurance only for a subset of these prospects then a more risk averse individual in the arrow pratt this paper examines the use of the arrowpratt and ross measures of risk aversion it is shown that in situations where the individual faces more than one uncertain prospect and can purchase insurance only for a subset of these prospects then in many cases the arrow pratt and ross measures of risk aversion are not sufficient to describe the behavior of the individual in purchasing insurance

willingness to pay for stochastic improvements of future risk under different risk aversion abstract within a general intertemporal decision making framework this work shows one individual with more k th degree k 2 n ross risk aversion always chooses more current paying to improve his future payoff distribution when such stochastic improvement satisfies the n th degree mean preserving stochastic dominance moreover when stochastic improvement of the future payoff distribution is not mean preserving the notions of linearly quadratically restricted more ross risk aversion proposed by eeckhoudt liu and meyer 2017 can help provide a clear cut comparative statics analysis

optimal insurance in incomplete markets this paper examines the theory of optimal insurance purchasing in the presence of uninsurable background risk existing theorems concerning the optimal level of insurance and the optimal form of an insurance contract are shown to hold only under restricted market and risk assumptions in particular conditions sufficient for the optimality of full coverage or sufficient for the optimality of deductible policies depend on the correlation between insurable and uninsurable risks these results may provide a partial explanation why existing theory is often contradicted by observable behavior

cluster or capture manufacturing foreign direct investment external economies and agglomeration phelps n a cluster or capture manufacturing foreign direct investment external economies and agglomeration regional studies this paper reviews the nature and significance of external economies associated with multinational enterprise mne participation in the manufacturing industries of host economies it argues that the balance of forces of internalization and externalization is currently skewed towards the former and the interests of mnes rather than the latter and the interests of local and national communities and governments a stylized comparison of developmental and competition state interventions in relation to mnes and their foreign direct investment fdi suggests that in the absence of co ordinated interventions by governments there will commonly be a failure of the logic of internalization to permit localized processes of externalization indeed the experiences of the competition states of the uk and the usa highlight the potential for the partial internalization or capture of loc

risk sharing with competition abstract this paper analyzes noncooperative models in which syndicates form endogenously the analysis differs from that of r wilson 1968 econometrica 36m 119 132 and m machina 1985 the behavior of risk sharers mimeo because an entrepreneur may have to compete with other entrepreneurs to form a syndicate the equilibrium is characterized when there are n entrepreneurs and a single investor the comparative statics results of wilson and machina may not hold when other entrepreneurs are present for example an entrepreneur may not favor a first order stochastic dominating shift of an investment s returns because the shift makes the other entrepreneur more competitive and makes it more costly to form a syndicate journal of economic literature classification number 022

missing risk sharing markets and the benefits of cross hedging in developing countries abstract we study the impact of exchange rate risk on an exporting firm in a developing country when there is no forward market in the foreign currency however there exists a forward traded cross hedging asset in this country by cross hedging its foreign exchange exposure the firm can increase its economic welfare export production increases and promotes international trade of the developing country if the spot rate of foreign exchange has some regression relationship to the price of the cross hedging asset we extend our results to the case of price as well as initial wealth uncertainty

optimum area yield crop insurance cet article determine le contrat optimal d assurance dont l indemnite depend du rendement agrege sur recoltes d un bassin de production le schema optimal d assurance est base sur le coefficient individuel de regression qui mesure la sensibilite du rendement agrege a des variations du rendement agrege une indemnite est versee lorsque le rendement agrege est inferieur superieur a un rendement critique si le coefficient de regression est positif negatif le contrat optimal contient une franchise evanescente si le coefficient de regression est superieur a l unite

estimating the location of world wheat price discovery the united states may be losing its leadership role in the world wheat market rising trading volume in foreign futures markets and shifting shares of world trade are suggested as evidence of this shift but neither necessitates that futures markets in the united states are any less important for wheat price discovery this paper applies high frequency pricing data and market microstructure methods including the yan and zivot 2010 information leadership share to estimate the proportion of price discovery occurring in wheat futures markets associated with chicago kansas city minneapolis and paris we find united states futures markets remain dominant although the share of price discovery for the paris market increased noticeably in 2010 coinciding with major supply shocks in russia and ukraine prior to august 2010 91 of information about the common fundamental value of wheat was first revealed in united states futures markets in an average month after august 2010 this share dropped to 75

optimal risk sharing with background risk this paper examines qualitative properties of efficient insurance contracts in the presence of background risk in order to get results for all strictly risk averse expected utility maximizers the concept of stochastic increasingness is used different assumptions on the stochastic dependence between the insurable and uninsurable risk lead to different qualitative properties of the efficient contracts the new results obtained under hypotheses of dependent risks are compared to classical results in the absence of background risk or to the case of independent risks the theory is further generalized to nonexpected utility maximizers

externalities pigouvian corrections and risk attitudes abstract we examine the influence of risk attitudes on the provision of an externality and on the proper size of pigouvian correction when the externality is a random variable whose distribution is affected by an observable externality generating activity an intervening technology relates changes in this observable activity to the probability distribution of the relevant externality unlike the now standard result in the theory of the firm involving the influence of risk attitudes on output levels we cannot conclude that increases in risk aversion will lead necessarily to a reduction in the level of the externality our results are applied to a wide range of market failures

on the statistical foundations of non linear utility theory the case of status quo dependent preferences abstract an account of non expected utility is given which resumes concepts of analysis from statistical decision theory and combines them with standard principles of preference theory such as weak order continuity and stochastic dominance a three parameter family of probability dependent utility functions is specified which is governed by the decision maker s aspiration level distribution of present wealth or status quo and discount parameter for future risks the approach offers a simple resolution of the allais paradox and explains basic patterns of probability dependent risk attitudes arising in theoretical and applied decision analysis

multiplicative background risk although there has been much attention in recent years on the effects of additive background risks the same is not true for its multiplicative counterpart we consider random wealth of the multiplicative form xy where x and y are statistically independent random variables we assume that x is endogenous to the economic agent but that y is an exogenous and nontradable background risk that represents a type of market incompleteness our main focus is on how the presence of the multiplicative background risk y affects risk taking behavior for decisions on the choice of x we extend the results of gollier and pratt 1996 to characterize conditions on preferences that lead to more cautious behavior

skewness preference risk aversion and the precedence relations on stochastic changes this paper provides a general choice theoretic characterization of the trade off between risk and skewness whose importance in understanding risk taking behavior is well documented in empirical studies the condition under which the prudence measure kimball 1990 characterizes the strength of an individual s downside risk aversion against his own risk aversion is identified and interpreted in a unifying framework based on the concept of one stochastic dominant change preceding another and that of the desirability of a stochastic change the framework is also shown to be useful for a better understanding of the arrow pratt measure the stronger ross measure and the coincidence of the characterizations of downside risk aversion and prudence as well as the relationship between stochastic dominances of different degrees

arrow s theorem of the deductible and long term care insurance abstract long term care ltc needs are expected to increase in the next decades this calls for more involvement of the market that today covers less than 10 of these needs we analyze which features an optimal ltc insurance policy should incorporate following arrow 1963 we suggest that such policy should consist of complete insurance above a deductible amount

broadly decreasing risk aversion this paper considers decision making in the presence of two additive risk sources with no restrictions on the relation between the two risks a utility function is said to exhibit broad dara if and only if a rise in wealth always decreases the magnitude of the risk premium for one of the risks vis a vis the other a condition on utility functions giving this property is derived utility must be of the linear plus exponential form it is shown that certain problems involving portfolios and risk averse firms give unambiguous comparative statics if and only if utility exhibits broad dara

the interdependence of individual portfolio decisions and the demand for insurance we analyze the individual s demand for insurance as a special case of general portfolio hedging activity the demand for insurance contracts is determined simultaneously with the demands for other assets in the portfolio we demonstrate that when the payoffs of the policy are correlated with the payoffs to the individual s other assets the demand for insurance contracts is generally not a separable portfolio decision we argue that this separability condition is not generally met because of significant interdependence of claims across different insurance policies furthermore our generalizations can reverse the standard prediction that wealthier individuals will demand less insurance

assortative matching and risk sharing abstract this paper explores the sorting patterns in a two sided matching market where agents facing different risks match to share them when preference belongs to the class of harmonic absolute risk aversion hara the risk premium is perfectly transferable within each partnership thus a stable match minimizes the social cost of risk in the systematic risk model where agents are ranked by their holdings of a common risky asset the convexity of the joint risk premium in joint risk size leads to negative assortative matching nam in the idiosyncratic risk model where agents are ranked by their independent riskiness in the sense of second order stochastic dominance ssd nam arises when preference exhibits decreasing absolute risk aversion dara in the sense of ross and riskier background risk leads to more risk averse behavior however nam may fail to arise when riskier background risk leads to more risk tolerant behavior

comparative statics and non expected utility preferences abstract researchers have shown that many though not all of the basic results of expected utility analysis can be more or less directly generalized to non expected utility preferences this paper describes the essential difference between results which can be extended in this manner and those which cannot and shows that an important family of comparative statics theorems falls into the former class

the risk averse and prudent newsboy the effects of risk and risk aversion in the single period inventory newsboy problem are examined comparative static effects of changes in the various price and cost parameters are determined and related to the newsboy s risk aversion the addition of a random background wealth and of an increase in the riskiness of newspaper demand are also examined although many of the comparative effects generally are ambiguous some fairly simple restrictions on preferences and or risk increases are shown to lead to qualitatively deterministic results

who buys and who sells options the role of options in an economy with background risk abstract in this paper we derive an equilibrium in which some investors buy call put options on the market portfolio while others sell them since investors are assumed to have similar risk averse preferences the demand for these contracts is not explained by differences in the shape of utility functions rather it is the degree to which agents face other non hedgeable background risks that determines their risk taking behavior in the model we show that investors with low or no background risk have a concave sharing rule i e they sell options on the market portfolio whereas investors with high background risk have a convex sharing rule and buy these options journal of economic literature classification numbers d52 d81 g11 g13

convex and decreasing absolute risk aversion is proper proper risk aversion a pivotal concept in the study of behavioral conditions on utility functions states that an undesirable risk can never be made desirable by the presence of an independent risk it is well known that standard risk aversion is sufficient for this concept we show in this short article that convex and decreasing absolute risk aversion is an alternative sufficient condition

a generalization of pratt arrow measure to nonexpected utility preferences and inseparable probability and utility the pratt arrow measure of local risk aversion is generalized for then dimensional state preference model of choice under uncertainty in which the decision maker may have inseparable subjective probabilities and utilities unobservable stochastic prior wealth and or smooth nonexpected utility preferences local risk aversion is measured by the matrix of derivatives of the decision maker s risk neutral probabilities without reference to true subjective probabilities or riskless wealth positions and comparative risk aversion is measured without requiring agreement on true probabilities risk neutral probabilities and their derivatives are shown to be sufficient statistics for approximately optimal investment and financing decisions in complete markets for contingent claims

modeling international investment decisions for financial holding companies abstract this research analyzes the internationalization process model developed by johanson and vahlne and derives two integer programming investment decision models that consider the risk attitudes of investment firms johanson and vahlne s model provides a starting point for building a model that suits the investment approach and decision making process of financial holding companies in practice when firms make an international investment decision there is a need for a model that can generate outputs based on financial measures such as profit investment returns and tolerable levels of risk thus in this paper johanson and vahlne s concepts are studied and financial managers are interviewed to derive models that match the investment decision procedures of the firms the model helps firms manage the risks of their investments and derive accurate investment strategies based on investment objectives and constraints

measuring the cost of liquidity in agricultural futures markets conventional and bayesian approaches estimating the cost of liquidity in agricultural futures markets is challenging because bid ask spreads are usually not observed based on an ability to reflect simulated data from roll s spread model we assess the effectiveness of conventional and bayesian bid ask spread estimators under different market conditions conventional serial covariance and absolute price change spread estimators appear to be biased hasbrouck s bayesian estimator generates small costs of liquidity whose values depend on the correlation and noise in the data the absolute value bayesian estimator is precise and works well under conditions of high levels of noise and correlation usually found in agricultural futures markets using data from live cattle lc and lean hog lh contracts we find similar patterns of performance that produce economically meaningful cost of liquidity differences

putting risk in its proper place this paper examines preferences toward particular classes of lottery pairs we show how such concepts as prudence and temperance can be fully characterized by a preference relation over these lotteries if preferences are defined in an expected utility framework with differentiable utility the direction of preference for a particular class of lottery pairs is equivalent to signing the nth derivative of the utility function what makes our characterization appealing is its simplicity which seems particularly amenable to experimentation

complementarity and substituability in multiple risk insurance markets we study imperfect competition between insurers in a multiple risk environment in the absence of asymmetric information equilibria are efficient and we determine the degrees of specialization under which the specialized insurers are able or unable to capture the surplus we show in contrast that under adverse selection specialization systematically prevents second best efficiency concluding on the role of our notions of strategic complementarity substituability on the tradeoff between efficiency and fairness of the allocation we give indications on the desirable structure of the insurance industry

an experimental study of precautionary bidding auctions often involve goods exhibiting a common knowledge ex post risk in such auctions precautionary bidding predicts that under expected utility dara bidders reduce their bids by more than the appropriate risk premium because the degree of riskiness of an auctioned good and bidders levels of risk aversion are difficult to observe in field settings we conduct experimental auctions that allow us to identify the precautionary premium directly we find strong evidence for precautionary bidding the effect is robust to changes in experimental design features our experiment provides the first empirical demonstration of precautionary motives in a strategic setting

preserving preference rankings under background risk abstract for any random vector of wealth payoffs x 1 x 2 let the random variable z be mutually independent of x 1 and x 2 with e z 0 the basic question we address in this paper is the following when can we say that x 1 z is preferred by an expected utility maximizer to x 2 z whenever x 1 is preferred to x 2 in other words when can we guarantee that the addition of an arbitrary independent background noise z will not affect the preference ranking between other risks

alternative approaches to comparative nth degree risk aversion this paper extends the three main approaches to comparative risk aversion the risk premium approach and the probability premium approach of pratt 1964 risk aversion in the small and in the large

risk wealth and sectoral choice in rural credit markets we model the role of the informal credit sector in developing countries the informational advantage of informal lenders is portrayed as the ability to monitor borrowers monitoring reduces the incentive problem and allows for contracts with lower collateral this enables informal lenders to serve both individuals who cannot post the collateral required by the formal sector and those who are able but do not want to post collateral the model is consistent with the conventional view of the informal sector as recipient of spillover demand from the formal sector it also shows that the informal sector may provide partial insurance as the lower collateral requirement implies greater consumption smoothing for borrowers

the political economy of industrial policy in korea the article aims to provide some additional empirical support and theoretical consolidation for the emerging alternative interpretation of the korean developmental experience which emphasizes the role of the state after briefly reviewing some mainstream interpretations it presents a detailed account of state intervention in korea where it is revealed that industrial policy played the central role then it explains how the korean state was able to avoid some of the obvious dangers of such a policy which is often associated with economic failures in developing countries it then explores the basis of state power in korea which provided a background for such an outcome copyright 1993 by oxford university press

background risk and self protection abstract the presence of background risk increases self protection effort or caution as long as an agent is prudent in addition the result extends to monetary self protection investment if wealth and consumption are complements

price index dispersion and utilitarian social evaluation the living standard indicator in utilitarian social evaluation functions usef is the ratio of a nominal living standard and a price index we show that under weak association of price indices and nominal living standards and usual concavity conditions on utility functions utilitarian social welfare increases with price index dispersion when the aggregate price level is superior to the arithmetic mean of price indices and diminishes when it is inferior to the harmonic mean

algorithmic quoting trading and market quality in agricultural commodity futures markets this paper investigates the effect of algorithmic trading activity as measured by quoting on the corn soybean and live cattle commodity futures market quality using the cme s limit order book

effects of background risks on cautiousness with an application to a portfolio choice problem we provide necessary and sufficient conditions on an individual s expected utility function under which any zero mean idiosyncratic risk increases cautiousness the derivative of the reciprocal of the absolute risk aversion which is the key determinant for this individual s demand for options and portfolio insurance

a note on insurance coverage in incomplete markets in this paper full insurance coverage on average is defined as the coinsurance rate that eliminates all insurable risk when the uninsurable risk is evaluated at its mean the regressibility assumption is used to derive the conditions on the correlation between background and insurable risks and the actuarial unfairness of insurance under which full over or underinsurance on average is optimal these conditions are compared to those for the case of default risk together they explain intuitively the different results under the cases of background risk and default risk obtained in the literature

financial intermediation and delegated monitoring this paper develops a theory of financial intermediation based on minimizing the cost of monitoring information which is useful for resolving incentive problems between borrowers and lenders it presents a characterization of the costs of providing incentives for delegated monitoring by a financial intermediary diversification within an intermediary serves to reduce these costs even in a risk neutral economy the paper presents some more general analysis of the effect of diversification on resolving incentive problems in the environment assumed in the model debt contracts with costly bankruptcy are shown to be optimal the analysis has implications for the portfolio structure and capital structure of intermediaries

the optimal deductible for an insurance policy when initial wealth is random individual wealth typically includes risky assets often some of these risks are insurable but other risks such as market valuation of stocks inflation and other general economic conditions are usually not insurable a series of recent papers by kihlstrom romer and williams 1981 ross 1981 nachman 1982 and pratt 1982 have shown that the introduction of background risk requires stronger definitions of risk aversion we will use some of these results to examine the choice of the optimal deductible in an insurance contract when initial wealth is random an examination of insurance purchases within a broader portfolio is considered by doherty 1981 and by mayers and smith 1983 these papers use a mean variance framework to examine the separability of the insurance decision in general portfolio relationships have nontrivial implications for insurance buying strategies in particular correlation between insurable and noninsurable risk may affect the optimal level of insurance coverage deductible insurance is considered mainly because of its widespread use by many insurers furthermore deductibles the literature concerning the choice of optimal deductibles for insurance policies assumes that wealth is nonstochastic except for the value being insured however a decision maker s asset portfolio might easily contain other sources of risk some of which might be uninsurable this paper examines the choice of a deductible insurance contract in the presence of uninsurable background risk existing theorems concerning the optimality of full coverage are shown to hold only under restricted conditions concerning the correlation of insurable risk with other risky assets more general propositions are established and the effects of risk aversion are considered

stronger measures of higher order risk attitudes this paper aims to extend the results by ross 1981 15 and by modica and scarsini 2005 13 to stochastic dominance of degree 4 and over specifically it is shown that ross approach can be extended to any order of risk attitude beyond the generalization proposed by modica and scarsini by means of sth degree increase in risk defined by ekern 1980 8 c 2010 elsevier inc all rights reserved

the behavior of bid ask spreads in the electronically traded corn futures market this is the first paper to analyze liquidity costs in agricultural futures markets based on the observed bid ask spread bas faced by market participants the results reveal a highly liquid corn market that mostly offers order execution at minimum cost the bas responds negatively to volume and positively to price volatility but also affects volume traded and price volatility while statistically significant these responses on a cents bushel or a percentage basis are generally small liquidity costs are also virtually impervious to short term changes in demand for spreading and trend following trader activity as well as differences from day of the week changes in market activity much larger cents bushel and percentage changes in bas occur during commodity index trader roll periods and on usda report release days the roll period findings indicate a sunshine trading effect while announcement effects identify the importance of unexpected information and adverse selection on order execution costs overall our research demonstrates that the transition to electronic trading in the corn futures market has led to low and stable liquidity costs despite the market turbulence in 2008 2009

are people risk vulnerable we report on a within subject experiment with substantial monetary incentives designed to test whether or not people are risk vulnerable in the experiment subjects face the standard portfolio choice problem in which the investor has to allocate part of his wealth between one safe asset and one risky asset we elicit risk vulnerability by observing each subject s portfolio choice in two different contexts that differ only by the presence or absence of an actuarially neutral background risk our main result is that most of the subjects are risk vulnerable 81 chose a less risky portfolio when exposed to background risk more precisely 47 invested a strictly smaller amount in the risky asset whereas 34 were indifferent furthermore contrasting the predictions provided by competing decision theoretic models we conclude that expected utility theory best fits our experimental data this paper was accepted by uri gneezy behavioral economics

the short run shutdown decision when output price and initial wealth are random abstract this paper extends the research of hori 1983 and chavas 1985 by investigating the short run shutdown decision of the competitive firm under output price risk when initial wealth is random central to this endeavor are the results of doherty and schlesinger 1986 and doherty et al 1987 concerning global and local risk premia under multiple sources of risk using a local risk premium two novel and intuitively pleasing results are reported here the reservation price of the shutdown decision varies a according to the diversification of the decision maker s cash flows and b if the decision maker exhibits dara then according to the depth of decision maker s pockets

risk aversion and the propensities for self insurance and self protection for a risk averse individual the methods for reducing the expected financial impact of a loss include reducing the severity of any loss that occurs self insurance and reducing the probability of the occurrence of a loss self protection the literature on this topic has pointed to several anomalies whereby the use of self protection and self insurance yield quite unsimilar results for example ehrlich and becker 5 show that self insurance is always a substitute for market insurance an insurance company s indemnifying a loss whereas self protection and market insurance might be complements dionne and eeckhoudt 4 show that a more risk averse consumer would always invest more in self insurance activities but not necessarily more in self protection activities they argue 4 42 that this result is counterintuitive and provides an exception to the widely accepted result that increased risk aversion reduces risky activities ehrlich and becker 5 639 argue that the incentive to self protect is not so dependent on attitude towards risk both of the above papers seem to take for granted that self protection activities reduce the riskiness of the final wealth distribution however as we argue below this is not the case if riskiness is defined as in rothschild and stiglitz 14 even if we use the variance as our risk measure we do not always reduce risk via self protection dionne and eeckhoudt suggest that these results might not be robust enough to extend to models that incorporate random initial wealth risk and state dependent preferences we show that the model seems to be very robust we also explain why self protection is not at all an exception to the long standing result of arrow 1 whereby more risk averse individuals undertake a lower

risk taking with additive and multiplicative background risks abstract we examine the effects of background risks on optimal portfolio choice examples of background risks include uncertain labor income uncertainty about the terminal value of fixed assets such as housing and uncertainty about future tax liabilities while some of these risks are additive and have been amply studied others are multiplicative in nature and have received far less attention the simultaneous effect of both additive and multiplicative risks has hitherto not received attention and can explain some paradoxical choice behavior we rationalize such behavior and show how background risks might lead to seemingly u shaped relative risk aversion for a representative investor

preservation of more risk averse under expectations abstract the preservation of risk aversion properties of utility functions under expectation operations is of interest in the study of derived utility functions in sequential decision problems and in problems with multiple contemporaneous sources of uncertainty the purpose of this note is to present sufficient conditions for the pratt relation more risk averse to be preserved under expectations

a comment on two concepts of risk premia and certainty equivalents abstract the purpose of this paper is to examine alternative univariate definitions of the risk premium which are applicable in cases of moral hazard where a decision variable affects the risk premium an appealing definition is the maximum of the objective function under certainty minus the selling price of the risk the welfare significance of this risk premium is examined the competitive firm under price uncertainty serves to exemplify the results

levelling the uneven playing field inward investment interregional rivalry and the planning system tewdwr jones m and phelps n a 2000 levelling the uneven playing field inward investment interregional rivalry and the planning system reg studies 34 429 440 concern has been mounting recently over the increasing intensity of competition among british regions for foreign direct investment this competition has been at its fiercest in the case of a number of recent very largest inward investment projects with public concern focusing on wasteful bidding up of total incentives packages this government has been alerted to the unfair playing field across the uk in terms of the financial capital grants made to overseas companies to locate to certain regions of the uk particularly wales and have responded by developing initiatives intended to enhance the english regions however little attention has been focused to date on the other factors utilized by successful regions in the interregional rivalry for scarce inward investment these other factors comprise firstly the unique ways in whic

the newsvendor problem under multiplicative background risk this note studies the single period newsvendor problem when the newsvendor faces a multiplicative neutral independent background risk in an expected utility framework it is shown that multiplicative risk vulnerability is a sufficient condition to guarantee a decrease in the optimal order a weaker sufficient condition which has more interpretability is also provided and discussed this result sheds light on situations where exchange tax or inflation rates risks which apply multiplicatively to the final wealth are at work

optimal insurance against climatic experience an optimal insurance contract against a climatic risk is derived in the presence of an uninsurable and dependent aggregate production risk the optimaldesign depends on the stochastic dependency between both sources of uncertainty and on the producer s attitude towards risk especially on his prudent behavior rationalweather insurance purchasing decisions are al so derived the prudent producer responds to actuarially fair weather insurance by increasing his exposure towards risk the u s multiple peril crop insurance program in which indemnity payments are based on the producer s individualyiel ds has been disappointing in that premiums have not been sufficient to cover indemnity payments and administrative costs this failure has induced the u s government to promote alternative insurance policies since 1993 the risk management agency has offered areayield contracts under its group risk plan in selected counties skees black and barnett another alternative is to base the indemnity on a weather index such as rainfall or temperature this policy was proposed in the past by sanderson but has failed to gain acceptance among policy makers the difficulties of rainfall insurance were a subject of debate in australia e g bardsley abey and davenport quiggin 1986 patrick the recent development of weather based instruments on financialmarkets known as weather derivatives for which the payoff depends on the cause of risk rather than on its effect on yield provide new opportunities for covering exposure to unfavorable weather events the objective of this article is threefold first a stochastic production function affected by a climatic risk and by an aggregate production risk where both sources of risk are stochastically dependent is de

bargaining power fear of disagreement and wage settlements theory and evidence from u s industry the paper develops and estimates a theoretical model of wage determination and union nonunion wage differentials in order to overcome the institutional ctiticisms of the formal bargaining literature the paper generalizes the nash zeuthen harsanyi model by linking the solution to the institutional concepts of bargaining power and fear or cost of disagreement and by making the outcome depend not only on endogenous but also on exogenous factors an operational specification of bargaining power and fear of disagreement allows the model to be estimated with data covering twelve companies and trade unions during the period from mid 1950 s to the late 1970 s while giving limited support to the nashzeuthen harsanyi solution the empirical analysis indicates that the bargaining outcome usually deviates from the nash zeuthen harsanyi point and in accordance with the institutionalist claim that it varies significantly with exogenous factors contrary to the traditional labor economics view the results do not support the general conclusion that the bargaining solution lies on the marginal revenue product curve of labor instead the relevant coefficients suggest that for many firms and unions the outcome might be better characterized by the efficient contract vertical contract curve

prudence in bargaining the effect of uncertainty on bargaining outcomes abstract we investigate the outcome of bargaining when a player s pay off from agreement is risky we find that a risk averse player typically increases his equilibrium receipts when his pay off is made risky this is because the presence of risk makes individuals behave more patiently in bargaining strong analogies are drawn to the precautionary saving literature we show that the effect of risk on receipts can be sufficiently strong that a decreasingly risk averse player may be better off receiving a risky pay off than a certain pay off

equilibrium asset prices with undiversifiable labor income risk abstract in a two period lucas tree economy in which ex ante identical but ex post dissimilar agents face undiversifiable labor income risk calibrating a wrong representative agent model results in overstating the equilibrium riskfree rate and in understating the equilibrium equity premium if the utility function exhibits decreasing absolute risk aversion and decreasing absolute prudence these behavioral assumptions provide as a consequence a theoretical rationale for the often advanced conjecture that nontraded risk contributes to the solution of the riskfree rate and equity premium puzzles

risk aversion wealth and background risk we use household survey data to construct a direct measure of absolute risk aversion based on the maximum price a consumer is willing to pay for a risky security we relate this measure to consumer s endowments and attributes and to measures of background risk and liquidity constraints we find that risk aversion is a decreasing function of the endowment thus rejecting cara preferences we estimate the elasticity of risk aversion to consumption at about 0 7 below the unitary value predicted by crra utility we also find that households attributes are of little help in predicting their degree of risk aversion which is characterized by massive unexplained heterogeneity we show that the consumer s environment affects risk aversion individuals who are more likely to face income uncertainty or to become liquidity constrained exhibit a higher degree of absolute risk aversion consistent with recent theories of attitudes toward risk in the presence of uninsurable risks jel d1 d8

health and portfolio choices a diffidence approach the effect of health status on portfolio decisions has been extensively studied from an empirical viewpoint in this paper we propose a theoretical model of individuals choice of financial assets under bivariate utility functions depending on wealth and health our approach makes an extensive use of the diffidence theorem we establish the conditions under which the share of wealth held in risky assets falls as 1 individuals health status deteriorates and 2 individuals health status becomes risky these conditions are shown to be related to the behavior of the intensities of correlation aversion and of cross prudence as wealth increases

rational insurance purchasing consideration of contract nonperformance much of the analysis of rational insurance purchasing and hedging strategies has been undertaken on the basis of the expected utility hypothesis this decision framework has been used to reformulate the bernoulli principle that a risk averter rationally would fully insure at a fair premium other applications include the analysis of insurance at unfair premiums mossin 1968 and smith 1968 the effects of state dependent utility on the rational insurance purchase cook and graham 1977 the effects of risky background wealth doherty and schlesinger 1983 and mayers and smith 1983 and the design of the optimal insurance policy raviv 1979 such analyses have been conducted on the assumption that insurance policies are free of insolvency default risk this assumption stands in sharp contrast to the actuarial literature in which the insolvency risk or probability of ruin is a central focus of attention

substituting one risk increase for another a method for measuring risk aversion abstract this paper defines the rate of substitution of one stochastic change to a random variable for another it then focuses on the case where one of these changes is an nth degree risk increase and the other is an mth degree risk increase where n m 1 the paper shows that the rate of substitution for these two risk increases can be used to provide a broader definition and two additional characterizations of the nth degree ross more risk averse partial order the implications for local intensity measures of nth degree risk aversion are also examined the analysis organizes the existing results as well as generates new ones

optimal hedging in a futures market with background noise and basis risk abstract this paper examines hedging behavior in an incomplete market in which there exists an unhedgeable and uninsurable independent background risk in the case of a basis risk that satisfies the regressibility property the background risk might be partly endogenous background risk generally has an ambiguous effect on the optimal hedge ratio however if preferences exhibit standard risk aversion and the background risk is fully exogenous the qualitative effect of the added background risk is determinate and depends on the direction of any bias in the futures market in all cases the speculative component of the hedge ratio is reduced in the presence of background risk when the background risk is a basis risk and futures prices exhibit normal backwardation this qualitative effect need not hold and it depends in part on the direction of regressability for spot and futures prices

risk aversion and the choice between risky prospects the preservation of comparative statics results most results in what can be termed the comparative statics of risk aversion are obtained when there is only one source of uncertainty the primary example which originally motivated the definition of risk aversion is that more risk averse people are willing to pay a higher premium for insuring against risk it is known that the results do not generally carry over when there is another source of uncertainty the paper develops conditions under which comparative statics results are robust against the introduction of additional sources of uncertainty

changes in background risk and risk taking behaviour economic decision making under uncertainty often takes place in the presence of multiple risks and in markets that are less than complete as a consequence choices about endogenous risks sometimes must be made while simultaneously facing one or more immutable exogenous background risks that are not under the control of the agent and that are independent of endogenous risks it is somehow natural to assume that an exogenous deterioration in background wealth will cause an individual to take more care elsewhere if we define a deterioration for example as making the individual poorer by removing a fixed amount of initial wealth we know from pratt 1964 that decreasing absolute risk aversion dara of an individual s von neumann morgenstern utility function yields this natural result if on the other hand background wealth becomes riskier due to the addition of a zero mean risk that is also statistically independent of all other risks behavior will be more risk averse if and only if preferences are risk vulnerable as defined by gollier and pratt 1996 risk vulnerability described below in section 4 is a stronger notion than dara and includes proper risk aversion pratt and zeckhauser 1987 and standard risk aversion eeckhoudt and kimball 1992 kimball 1993 as particular cases but a deterioration in background wealth may encompass more complicated distribution changes than the introduction of another statistically independent risk in this paper we examine background wealth deteriorations that take the form of both general firstand second degree stochastic dominance changes in risk fsd and ssd respectively in particular we determine conditions that are both necessary and sufficient for each of these two types of background risk changes to imply more risk averse behavior on the part of the individual for the case of fsd changes this condition turns out to be ross stronger characterization of decreasing absolute risk aversion in the case of general ssd changes in the distribution of background wealth the condition derived is a stronger version in ross sense of the conditions characterizing preferences that are locally risk vulnerable in the sense of gollier and pratt the necessary and sufficient conditions derived are fairly restrictive upon preferences however if we take as positive behavior that individuals act in a more risk averse manner whenever the distribution of background wealth deteriorates these conditions place canonical limits upon appropriate utility representations at the very least they

constrained choices under risk there has recently been a revival of interest in the implications of rationing for economic theory extending the work of samuelson 21 tobin and houthakker 24 and pollak 16 recent papers by bruno 3 howard 8 latham 13 and neary and roberts 15 have explored the theory of producer and consumer behavior under quantity rationing these developments have provided useful hypotheses in the investigation of economic behavior for example they have stimulated a reexamination of macroeconomic disequilibrium however previous work seems to have focused on economic models in the absence of uncertainty yet given that production decisions are often made before output prices are known and in the absence of complete contingent markets sandmo 22 batra and ullah 2 and others have developed the theory of the competitive firm under price uncertainty under the expected utility maximization hypothesis such a theory provides useful information about the influence of changing economic conditions or of risk behavior on production decisions but because of the presence of short run adjustment costs leading to short run input fixity or because of regulatory or institutional constraints quantity rationing often influences production decisions in order to evaluate how rationing influences such decisions there is a need to develop a conceptual model of constrained choices of the firm under risk the objective of this paper is to explore the implications of quantity rationing in the context of production theory under price uncertainty by introducing risk and risk behavior it extends the classical analysis of quantity constrained production decisions 3 21 the implications of quantity constraints for risk responsive choice functions are derived using the concepts of compensated choice functions and virtual prices it is shown that expected price effects can be decomposed into substitution effects and wealth effects the substitution effects measure the effects of a change in expected price on the compensated choice functions the compensation being made through a change in initial wealth holding expected utility constant the wealth effects characterize risk preferences since a non zero wealth effect reflects a departure from an arrow pratt constant absolute risk aversion utility function the influence of rationing on the properties of ordinary as well as compensated choice functions is analyzed in details by deriving the implications of quantity constraints for firm behavior under uncertainty the paper presents a number of useful results concerning the influence of risk or technology on economic behavior under rationing for example a

decision making with expected shortfall and spectral risk measures the problem of comparative risk aversion abstract we analyze spectral risk measures with respect to comparative risk aversion following arrow 1965 and pratt 1964 for deterministic wealth and ross 1981 for stochastic wealth we argue that the arrow pratt concept per se well matches with economic intuition in standard financial decision problems such as willingness to pay for insurance and simple portfolio problems different from the literature we find that the widely applied spectral arrow pratt measure is not a consistent measure of arrow pratt risk aversion instead the difference between the antiderivatives of the corresponding risk spectra is valid within the framework of ross we show that the popular subclasses of expected shortfall and exponential and power spectral risk measures cannot be completely ordered with respect to ross risk aversion thus for all these subclasses the concept of ross risk aversion is not generally compatible with arrow pratt risk aversion but induces counter intuitive comparative statics of its own compatibility can be achieved if asset returns are jointly normally distributed the general lesson is that these restrictions have to be considered before spectral risk measures can be applied for the purpose of optimal decision making and regulatory issues

demand for risky financial assets a portfolio analysis abstract demand for risky financial assets takes place in portfolio settings the common stochastic orders applied in economics fail to rank demand for assets in such situations even for risk averse investors therefore the evaluation of the relative desirability of risky financial assets requires the establishment of new orders we prove that if returns on risky assets are ordered by the monotone likelihood ratio order then dominating assets will be more desired by all investors with nondecreasing utility functions

some stronger measures of risk aversion in the small and the large with applications the arrow pratt measures of risk aversion for von neumann morgenstern utility functions have become workhorses for analyzing problems in the microeconomics of uncertainty they have been used to characterize the qualitative properties of demand in insurance and asset markets to examine the properties of risk taking in taxation models and to study the interaction between risk and life cycle savings problems to name just a few applications equally importantly they have generated the linear risk tolerance class of utility functions which has provided canonical examples in such diverse areas as portfolio theory and the theory of teams despite these successes there have been a number of areas for which the results have been weaker than hoped it is natural to use the risk aversion measures to compare the behavior of individuals in risky choice situations for example consider the individual portfolio choice problem in a two asset world with a riskless asset and a risky asset if individual a has a uniformly higher arrow pratt coefficient of risk aversion than individual b then b will always choose a portfolio combination with more wealth invested in the risky asset but suppose that both assets are risky now there is no obvious sense in which the more risk averse individual can be said to hold a less risky portfolio but it seems strange that such a simple alteration should destroy the analytics which support the basic intuition similarly consider the basic insurance problem if one individual a is more risk averse than another b in the arrow pratt sense it follows that a will pay a larger premium to insure against a random loss than will b typically though an individual evaluates partial rather than total insurance that is only some gambles can be insured against and others must be retained in this case even when the gambles which are retained are independent from those which are insured it is no longer true that the individual whose arrow pratt measure of risk aversion is higher will pay a larger insurance premium the situation is no better when we consider comparative statics exercises for a single individual decreasing absolute risk aversion in the sense of arrow and

the market for sweepstakes this paper studies the market for monopolistically supplied sweepstakes we derive equilibrium demands for fixed prize and variable prize sweepstakes and determine the profit maximizing prize level and pay out ratio respectively it can be profitable to offer each type of sweepstake when there is a large enough number of weighted utility consumers who have constant absolute risk attitudes are strictly averse to small as well as symmetric risks and display longshot preference behaviour moreover for the variable prize sweepstake the supplier will generally find it profitable to combine sweepstakes targeting two smaller populations and offer a single sweepstake to the combined population this implication is corroborated by the recent spate of mergers of smaller state lotteries into larger ones

is land leasing a solution to unaffordable housing the increase in u s mortgage rates from nine per cent in 1976 to fifteen per cent in 1982 raised monthly mortgage payments by about sixty per cent even before rising house prices in the united states over this period are taken into account not surprisingly attention has been focused on ways and means of counteracting spiralling housing costs one proposed solution is land leasing under such an arrangement the homebuyer purchases the house but leases the land there may be an option to buy the land at some time in the future land leasing reduces the overall purchase price and hence lowers the minimum down payment and the initial monthly mortgage payment in hawaii land leasing has been a readily available alternative to land owning throughout the postwar period the analysis of residential housing prices in hawaii provides some quantitative estimates of the relative prices of leasehold versus fee simple properties the average price differential is surprisingly small one explanation of these small price differentials for which a model is developed and tested here is that borrowing constrained households use high discount rates to calculate the present value of the future land price that they will in effect have to pay at the expiration of the lease these discount rates are estimated in a nonlinear hedonic property price equation the results are then employed to answer the question under what conditions would a leaseholder buy the land outright before the expiration of the lease

on the theory of the competitive firm under uncertainty when initial wealth is random since sandmo s seminal paper on the theory of the competitive firm under output price uncertainty there has been considerable research on this topic 2 5 6 10 11 14 in all these studies it is assumed that in the absence of complete contingent markets output price risk is the only source of uncertainty for the firm however this may not be a realistic assumption in particular as argued by kihlstrom et al 7 it appears reasonable to consider the case where some of the initial wealth of the firm is held in risky assets in that case initial wealth is uncertain and should be modelled as a random variable the objective of this paper is to investigate the introduction of random initial wealth in sandmo s theory of the firm under price uncertainty in sandmo s model a number of important comparative static results e g the conditions under which the supply function is upward sloping 14 69 or under which increased price uncertainty reduces supply 5 depends critically on the sign of a particular expression stated in lemma 2 in ishii 5 while sandmo 14 69 shows this expression is non negative under arrow pratt decreasing absolute risk aversion it can be verified that his proof no longer holds when initial wealth is random therefore the comparative static analysis conducted by sandmo 14 batra and ullah 2 and ishii 5 is no longer valid and gives ambiguous results under initial wealth uncertainty the reason is that the arrow pratt measures of risk aversion 1 12 are too weak for making comparisons in situations where there is more than one source of uncertainty 13 then what can be deduced from the theory of the competitive firm in the realistic case where both initial wealth and output price are uncertain we will show here that meaningful results on the behavior of the competitiv firm under uncertainty can be obtained provided that the arrow pratt measures of risk aversion 1 12 are replaced by the ross measures of risk aversion 13 in particular a comparative static analysis of the production decisions using ross characterization of risk behavior is presented a number of new results are derived on the properties of risk responsive supply and input demand functions under both price and initial wealth uncertainty

multivariate risk aversion and consumer choice this paper analyzes the effect of increases in risk aversion on a general consumer choice model with multiple sources of risk sufficient and in the two commodity case necessary conditions for a given demand function to increase or decrease with increased risk aversion are derived these general results are illustrated with a two period consumption savings model copyright 1990 by economics department of the university of pennsylvania and the osaka university institute of social and economic research association

arrow pratt measures of risk aversion the multivariate case arrow pratt measures of risk aversion have been defined for the univariate case for utility functions having the same ordinal preferences the authors extend k j arrow s probability premium index to the multivariate case and obtain a unique solution that can be employed to risk aversion comparison analysis they also extend g t duncan s definition of the risk premium vector and show that it can be employed in comparative risk aversion once they confine themselves to the same preference ordering hence the authors end up with two multivariate risk indexes that are parallel to the arrow and pratt univariate indexes copyright 1991 by economics department of the university of pennsylvania and the osaka university institute of social and economic research association

temporal risk and the nature of induced preferences abstract it has been known since the work of h markowitz portfolio selection efficient diversification of investments yale univ press 1959 and j mossin amer econ rev 59 1969 172 174 that even an individual whose underlying preferences satisfy the von neumann morgenstern axioms will not choose over delayed i e temporal risky prospects in a manner which can be modelled as expected utility maximizing since most economically important instances of risk taking insurance real investment agriculture career training involve delayed as opposed to immediately resolved risk the standard use of expected utility theory to model such decisions must be questioned in this paper the technique of generalized expected utility analysis m j machina econometrica 50 1982 277 323 and the theory of support functions r t rockafellar convex analysis princeton univ press 1970 are applied to exactly model and hence determine the nature of preferences over temporal risky prospects

a normalized value for information purchases consider agents who are heterogeneous in their preferences and wealth levels these agents may acquire information prior to choosing an investment that has a property of no arbitrage and each piece of information bears a corresponding cost we associate a numeric index to each information purchase information cost pair this index describes the normalized value of the information purchase it is the risk aversion level of the unique cara agent who is indifferent between accepting and rejecting the purchase and it is characterized by a duality principle that states that agents with a stronger preference for information should engage more often in information purchases no agent more risk averse than the index finds it profitable to acquire the information whereas all agents less risk averse than the index do given an empirically measured range of degrees of risk aversion in a competitive economy with no arbitrage investments our model therefore comes close to describing an inverse demand for information by predicting what pieces of information are acquired by agents and which ones are not among several desirable properties the normalized value formula induces a complete ranking of information structures that extends blackwell s classic ordering

choosing between risky prospects the characterization of comparative statics results and location independent risk we consider expected utility maximizers choosing from a family of risky prospects and examine how choice is influenced by the decision makers attitude to risk if the family of risky prospects can be ordered so that as decision makers are more risk tolerant they choose a gamble higher in the ordering then it is natural to say that the family of risky prospects admit a comparative static result the paper characterizes when comparative static results of this sort exist an application is to propose a criterion of location independent riskiness

stochastic choice in insurance and risk sharing a reply yoram kroll s comment arises from an ambiguity in my paper which i think leads him to misinterpret the purpose of the analysis fortunately the comment does generate an additional result that is of value unfortunately in pursuing the wrong side of this ambiguity kroll concludes that stochastic dominance rules are quite ineffective in ranking insurance strategies such as full coverage and excess policies this conclusion does not hold and my main result is still valid much of the economic analysis of insurance buying strategies has been undertaken on the assumption that the premium to be paid is proportional to the actuarial value of the policy in other words there is a constant percentage loading given these conditions full insurance is never optimal for a risk averter smith 9 mossin 7 why then do so many people routinely purchase full insurance to illuminate this issue consider the problem what premium reduction is necessary to induce a risk averter to select a policy containing an excess deductible over a policy offering full cover the answer given in my paper is that the premium reduction must exceed the mathematical value of the uninsured risk this being a necessary condition but not a sufficient condition this result is robust in the face of kroll s comment but what is at issue is whether the premium example outlined in my paper satisfies this condition using the same notation as kroll the condition for second degree stochastic dominance of the full cover over the excess deductible policy is

precautionary bidding in auctions we analyze bidding behavior in auctions when risk averse buyers bid for a good whose value is risky we show that when the risk in the valuations increases dara bidders will reduce their bids by more than the appropriate increase in the risk premium ceteris paribus buyers will be better off bidding for a more risky object in first price second price and english auctions with affiliated common interdependent values this precautionary bidding effect arises because the expected marginal utility of income increases with risk so buyers are reluctant to bid so highly we also show that precautionary bidding behavior can make dara bidders prefer bidding in a common values setting to bidding in a private values one when risk neutral or cara bidders would be indifferent thus the potential for a winner s curse can be a blessing for rational dara bidders

risky choices and correlated background risk the analysis of a risky project should take into account not only uncertainties about the return from that project project risk but also uncertainties associated with other ongoing projects and with exogenous factors that can impact final wealth background risk the presence of background risk can change the optimal course of action with respect to a project and ignoring such risk might lead to a poor decision most work on background risk assumes that project risk and background risk are independent and are additive in their impact on wealth however independence is often unrealistic and background risk operates in a multiplicative manner in many situations we relax the independence assumption and consider a model with both additive and multiplicative background risk the optimal decisions in the correlated setting can be very different than those that would appear optimal if the correlation were ignored the impact of correlation differs in the additive and multiplicative cases with positive correlation being beneficial in some cases and negative correlation in others the analytical and numerical results indicate that in analyzing decision making problems it is very important to understand the direction and degree of dependence between project risk and background risks

globalisation regions and the state exploring the limitations of economic modernisation through inward investment over the past 10 years or so the uk has witnessed intense interregional competition for a small number of large inward investment projects these projects examples of foreign direct investment fdi from far east asia have been relied upon by nation states as panaceas to the economic problems being experienced within older industrial regions central government has adopted a non interventionist approach to fdi and has rather encouraged regional level institutions of governance to provide innovative and competitive packages of aid to the prospective investors through the creation of customised spaces by relying on this fdi local and regional level institutions within the uk have sought to reduce or eliminate those uncertainties associated with local governance and the planning system that would otherwise face potential investors we discuss these issues with reference to three case study fdi examples lg in south wales samsung in the north east of england and hyundai in scotland these projects provide good examples of the prestige attached to large fdi projects by regional and local agencies by passing normal local democratic processes instigating streamlined institutional processes and ignoring environmental protection policies to land the projects for particular regions but the collapse of the south east asian economies and the recent mothballing of both the hyundai and lg plants illustrate some very immediate problems regarding the unsustainability of the nation state both relying on the global market and subordinating local interstices to resolve regional economic problems overall the paper examines how particular state forms and practices operate to privilege certain types of interests and activities at certain scales and how particular state entities are attempting to capture agendas and decisions at particular scales of governance

bid ask spreads volume and volatility evidence from livestock markets using literature based measures and a modified bayesian method specified here we estimate liquidity costs and their determinants for the live cattle and hog futures markets volume and volatility are simultaneously determined and significantly related to the bid ask spread daily volume is negatively related to the spread while volatility and average volume per transaction display positive relationships electronic trading has a significant competitive effect on liquidity costs particularly in the live cattle market results are sensitive to the bid ask spread measure with our modified bayesian method providing estimates most consistent with expectations and the competitive structure in these markets