LOSS AVERSION IN A MULTIPERIOD MODEL

An individual faces a choice between streams of outcomes in several pe riods in the future. This paper examines an axiomatization of preferen ce relations over these streams that includes preferences which do not satisfy temporal monotonicity, and which leads to a simple functional representation of these preferences. Motivated by the loss-aversion a spects of Tversky and Kahneman's prospect theory, the axioms lead to a representation that takes into account not only the utility of the pe r-period outcomes (instantaneous payoffs), but also the differences be tween the utility of pairs of adjacent outcomes, and the direction of the differences (gains or losses). In this framework, loss aversion is defined and characterized. (C) 1997 Elsevier Science B.V.