NonExpected Utility: What do the Anomalies Mean for Risk in Agriculture?
Chapter
Abstract
After more than a quarter century of analysis into its predictive value, the validity of the expected utility model (EU) is seriously called into question. These questions are particularly critical for agricultural economists since we have long relied on EU to assess behavior under the pervasive environment of risk in agricultural and natural resource issues. In this chapter, I will review some of the primary violations of EU, assess their implications, and consider various responses put forward in light of them. Questions addressed include:

What is the nature of behavior violating EU as commonly applied?

What do these anomalies tell us about modeling behavior under risk and what testable implications can be drawn from models incorporating them?

Can we still use EU for some risky choices in light of these anomalies; i.e., how robust are the anomalies to (1) the design of the risky questions, (2) real payoffs, and (3) experimental vs. nonexperimental risky questions?
Keywords
Income Marketing Black Ball Dition EstimaPreview
Unable to display preview. Download preview PDF.
References
 Allais, M. 1953. “Le Comportement de l’Homme Rationnel Devant le Risque: Critique des Postulats et Axiomes de l’Ecole Américaine.” Econometrica 21: 503–546.CrossRefGoogle Scholar
 Allais, M. 1979. “The SoCalled Allais Paradox and Rational Decisions Under Uncertainty.” In M. Allais and O. Hagen, eds., Expected Utility Hypotheses and the Allais Paradox. Dordrecht, Holland: Reidel.CrossRefGoogle Scholar
 Arrow, K. 1970. Essays in the Theory of Risk Bearing. Amsterdam: North Holland.Google Scholar
 Atwood, J., and D.E. Buschena. 2000. “Evaluating the Magnitudes of Financial Transactions Costs on Risk Behavior.” Working Paper, Department of Agricultural Economics and Economics, Montana State University.Google Scholar
 Atwood, J.A., M.J. Watts, and A. Baquet. 1996. “An Examination of the Effects of Price Supports and Federal Crop Insurance Upon the Economic Growth, Capital Structure, and Financial Survival of Wheat Growers in the Northern High Plains.” American Journal of Agricultural Economics 78: 212–224.CrossRefGoogle Scholar
 BarShira, Z. 1992. “Nonparametric Tests of The Expected Utility Hypothesis.” American Journal of Agricultural Economics 74: 523–533.CrossRefGoogle Scholar
 Bell, D.E. 1982. “Regret in Decision Making Under Uncertainty.” Operations Research 30: 961–981.CrossRefGoogle Scholar
 Benjamin, D.K., and W.R. Dougan. 1997. “Individual’s Estimates of the Risk of Death: Part I  A Reassessment of the Previous Evidence.” Journal of Risk and Uncertainty 15: 115134.Google Scholar
 Benjamin, D., W. Dougan, and D.E. Buschena. 2001. “Individuals’ Estimates of the Risks of Death: Part II — New Evidence.” Journal of Risk and Uncertainty 22: 35–57.CrossRefGoogle Scholar
 Buschena, D.E., and D. Zilberman. 1995. “Performance of the Similarity Hypothesis Relative to Existing Models of Risky Choice.” Journal of Risk and Uncertainty 11: 233–262.CrossRefGoogle Scholar
 Buschena, D.E., and D. Zilberman. 1999a. Testing the Effects of Similarity and Real Payoffs on Choice. In M. Machina and B. Munier, eds., Beliefs, Interactions, and Preferences in Decision Making. Boston: Kluwer Academic Publishers.Google Scholar
 Buschena, D.E., and D. Zilberman. 1999b. “Testing the Effects of Similarity on Risky Choice: Implications for Violations of Expected Utility.” Theory and Decision 46: 253–280.CrossRefGoogle Scholar
 Buschena, D.E., and D. Zilberman. 2000. “Generalized Expected Utility, Heteroscedastic Error, and Path Dependence in Risky Choice.” Journal of Risk and Uncertainty 20: 67–88.CrossRefGoogle Scholar
 Buschena, D.E., and D. Zilberman. 2001. “Predictive Value of Incentives, Decision Difficulty, and Expected Utility Theory for Risky Choices.” Working Paper, Department of Agricultural Economics and Economics. Montana State University.Google Scholar
 Camerer, C.F., and R. Hogarth. 1999. “The Effect of Financial Incentives in Experiments: A Review and CapitalLaborProduction Framework.” Journal of Risk and Uncertainty 19: 7–42.CrossRefGoogle Scholar
 Carbonne, E., and J.D. Hey. 2000. “Which Error Story is Best?” Journal of Risk and Uncertainty 20: 161–176.CrossRefGoogle Scholar
 Cherry, T.L., T.D. Crocker, and J.F. Shogren. 1999. “Rationality Spillovers.” Working Paper, Department of Economics and Finance, University of Central Florida.Google Scholar
 Collins, A., W.N. Musser, and R. Mason. 1991. Prospect Theory and Risk Preferences ofGoogle Scholar
 Oregon Seed Producers. American Journal of Agricultural Economics 73: 429–435.Google Scholar
 Edwards, W. 1954. “The Theory of Decision Making.” Psychological Bulletin 51: 380–417.CrossRefGoogle Scholar
 Ellsberg, D. 1961. “Risk, Ambiguity, and the Savage Axioms.” Quarterly Journal of Economics 75: 643–669.CrossRefGoogle Scholar
 Feder, G., R.E. Just, and A. Schmitz. 1980. “Futures Markets and the Theory of the Firm Under Price Uncertainty.” Quarterly Journal of Economics 94: 317–328.CrossRefGoogle Scholar
 Fishbum, P.C. 1981. “An Axiomatic Characterization of SkewSymmetric Bilinear Functionals, With Applications to Utility Theory.” Economics Letters 8: 311–313.CrossRefGoogle Scholar
 Fishbum, P.C. 1988. Nonlinear Preference and Utility Theory. Baltimore: Johns Hopkins University Press.Google Scholar
 Friedman, M., and L.J. Savage. 1948. “The Utility Analysis of Choices Involving Risk.” Journal of Political Economy 56: 279–304.CrossRefGoogle Scholar
 Harless, D., and C. Camerer. 1994. “The Predictive Utility of Generalized Expected Utility Theory.” Econometrica 62: 1251–1290.CrossRefGoogle Scholar
 Harless, D.W., and S.P. Peterson. 1998. “Investor Behavior and the Persistence of PoorlyPerforming Mutual Funds.” Journal of Economic Behavior and Organization 37: 257276.Google Scholar
 Harrison, G.W. 1994. “Expected Utility Theory and the Experimentalists.” Empirical Economics 19: 223–253.CrossRefGoogle Scholar
 Heath, C., and A. Tversky. 1991. “Preference and Belief: Ambiguity and Competence in Choice Under Uncertainty.” Journal of Risk and Uncertainty 4: 5–28.CrossRefGoogle Scholar
 Hershey, J.C., and P. J.H. Schoemaker. “Risk Taking and Problem Context in the Domain of Losses: An Expected Utility Analysis.” Journal of Risk and Insurance 47: 111–132.Google Scholar
 Hey, J.D. 1995. “Experimental Investigations of Errors in Decision Making Under Risk.” European Economic Review 39: 633–640.CrossRefGoogle Scholar
 Hey, J.D., and C. Orme. 1994. “Investigating Generalizations of Expected Utility Theory Using Experimental Data.” Econometrica 62: 1291–1326.CrossRefGoogle Scholar
 Jensen, N. 1967. “An Introduction to Bernoullian Utility Theory: Utility Functions.” Swedish Journal of Economics 69: 163–183.CrossRefGoogle Scholar
 Jullien, B., and B. Salanié. 2000. “Estimating Preferences Under Risk: The Case of Racetrack Bettors.” Journal of Political Economy 108: 503–530.CrossRefGoogle Scholar
 Kachelmeter, S.J., and M. Shehata. 1992. “Examining Risk Preferences Under High Monetary Incentives: Experimental Evidence From the Peoples’ Republic of China.” American Economic Review 82: 1 120–1 141.Google Scholar
 Kahneman, D., and A. Tversky. 1979. “Prospect Theory: An Analysis of Decision Under Risk.” Econometrica 47: 263–291.CrossRefGoogle Scholar
 Katoka, S. 1963. “A Stochastic Programming Model.” Econometrica 31: 181–196.CrossRefGoogle Scholar
 Leland, J.W. 1994. “Generalized Similarity Judgments: An Alternative Explanation for Choice Anomalies.” Journal of Risk and Uncertainty 9: 151–172.CrossRefGoogle Scholar
 Lichtenstein, S., P. Slovic, B. Fischoff, M. Lyman, and B. Combs. 1978. “Judged Frequency of Lethal Events.” Journal of Experimental Psychology: Human Learning and Memory 4: 551–578.CrossRefGoogle Scholar
 Loomes, G., and R. Sudgen. 1982. “Regret Theory: An Alternative Theory of Rational Choice Under Uncertainty.” Economic Journal 92: 805–824.CrossRefGoogle Scholar
 Machina, Mark J. 1982. “`Expected Utility’ Analysis Without the Independence Axiom.” Econometrica 50: 277–323.CrossRefGoogle Scholar
 Machina, Mark J. 1989. “Comparative Statics and NonExpected Utility Preferences.” Journal of Economic Theory 47: 393–405.CrossRefGoogle Scholar
 Machina, Mark J. 1990. “Choice Under Uncertainty: Problems Solved and Unsolved.” In R.B. Hammon and R. Coppock, eds., Valuing Health Risk, Costs and Benefits for Environmental Decisionmaking. Washington, D.C.: National Academy Press.Google Scholar
 Mahul, O. 2000. “The Output Decision of a RiskNeutral Producer under Risk of Liquidation.” American Journal of Agricultural Economics 82: 49–58CrossRefGoogle Scholar
 Meyer, J. 2001. “Expected Utility as a Paradigm for Decision Making in Agriculture.” In R.E. Just and R.D. Pope, eds., A Comprehensive Assessment of the Role of Risk in U.S. Agriculture. Boston, MA: Kluwer Academic Publishers.Google Scholar
 Newbery, D.M.G., and J.E. Stiglitz. 1981. The Theory of Commodity Price Stabilization. Oxford: Oxford University Press.Google Scholar
 Pious, S. 1993. The Psychology of Judgment and Decision Making. Philadelphia: Temple University Press: Philadelphia.Google Scholar
 Pratt, J.W. 1964. “Risk Aversion in the Small and in the Large.” Econometrica 32: 122–136. Preston, M.G., and P. Baratta. 1948. “An Experimental Study of the Auction Value of an Uncertain Outcome.” American Journal of Psychology 61: 183–193.Google Scholar
 Quiggin, J. 1982. “A Theory of Anticipated Utility.” Journal of Economic Behavior and Organization 3: 323–343.CrossRefGoogle Scholar
 Quiggin, J. 1991. “Comparative Statics for RankDependent Expected Utility Theory.” Journal of Risk and Uncertainty 4: 339–350.CrossRefGoogle Scholar
 Quiggin, J., and R.G. Chambers. 1998. “Risk Premiums and Benefit Measures for GeneralizedExpected Utility Theories.” Journal of Risk and Uncertainty 17: 121–138.CrossRefGoogle Scholar
 Roberts, M. 1994. “The Sensitivity of Expected Utility Violations to the Experimental Design: How Context Affects Risky Choice.” Master’s thesis, Department of Agricultural Economics and Economics, Montana State University.Google Scholar
 Robison, L.J., and P.J. Barry. 1987. The Competitive Firm’s Response to Risk. New York: MacMillan.Google Scholar
 Roy, A.D. 1952. “Safety First and the Holding of Assets.” Econometrica 20: 431–449.CrossRefGoogle Scholar
 Rubinstein, A. 1988. “Similarity and Decision Making Under Risk: Is There a Utility Theory Resolution to the Allais Paradox?” Journal of Economic Theory 46: 145–153.CrossRefGoogle Scholar
 Sandmo, A. 1971. “On the Theory of the Competitive Firm Under Price Uncertainty.” American Economic Review 61: 65–73.Google Scholar
 Smith, V.K. 1992. “Environmental Risk Perception and Valuation: Conventional Versus Prospective Reference Theory.” In D.W. Bromley and K. Segerson, eds., The Social Response to Environmental Risk: Policy Formulation in an Age of Uncertainty. Boston: Kluwer Academic Publishers.Google Scholar
 Stigler, J.E., and G.S. Becker. 1977. “De Gustibus Non est Disputandum.” American Economic Review 67: 76–90.Google Scholar
 Telser, L.G. 1955–56. “Safety First and Hedging.” Review of Economic Studies 23: l16.Google Scholar
 Tversky, A. 1969. “Intransitivity of Preferences.” Psychological Review 76: 31–48.CrossRefGoogle Scholar
 Tversky, A. 1977. “Features of Similarity.” Psychological Review 84: 327–352.CrossRefGoogle Scholar
 Tversky, A., and D. Kahneman. 1992. “Advances in Prospect Theory: Cumulative Representation of Uncertainty.” Journal of Risk and Uncertainty 5: 297–323.CrossRefGoogle Scholar
 Viscusi, W.K. 1989. “Prospective Reference Theory: Toward an Explanation of the Paradoxes.” Journal of Risk and Uncertainty 2: 235–264.CrossRefGoogle Scholar
 von Neumann, J., and O. Morgenstern. 1953. Theory of Games and Economic Behavior ( 3rd ed. ). Princeton, NJ: Princeton University Press.Google Scholar
Copyright information
© Springer Science+Business Media New York 2002