Cumulative prospect theory and the St.Petersburg paradox

Marc Oliver Rieger and Mei Wang

No 04-28, Papers from Sonderforschungsbreich 504

Abstract: We find that in cumulative prospect theory (CPT) with a concave value function in gains, a lottery with finite expected value may have infinite subjective value. This problem does not occur in expected utility theory. We characterize situations in CPT where the problem can be resolved. In particular, we define a class of admissible probability distributions and admissible parameter regimes for the weighting-- and value functions. In both cases, finiteness of the subjective value can be proved. Alternatively, we suggest a new weighting function for CPT which guarantees finite subjective value for all lotteries with finite expected value, independent of the choice of the value function.

Keywords: Cumulative Prospect Theory; Probability Weighting Function; St. Petersburg Paradox (search for similar items in EconPapers)
JEL-codes: C91 D81 (search for similar items in EconPapers)
Date: 2004
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Persistent link: https://EconPapers.repec.org/RePEc:mnh:spaper:2714

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