This paper examines how background risk affects risk taking under rank-dependent utility. I assume that a decision-maker facing a risk taking decision in the presence of background risk views these risks as composing a compound lottery, and recursively evaluates this compound lottery using rank-dependent utility. I show that adding background risk increases risk aversion whenever the utility-for-wealth function is risk vulnerable (Gollier and Pratt, 1996) in this model.
Freeman, David. Risk Taking with Background Risk under Recursive Rank-Dependent Utility. Mathematical Social Sciences, 87:72-74. http://doi.org/10.1016/j.mathsocsci.2017.03.003
Mathematical Social Sciences
Risk Taking with Background Risk under Recursive Rank-Dependent Utility
Copyright is held by the author(s).
Member of collection