Limitations
The notion of (constant) risk aversion has come under criticism from behavioral economics. According to Matthew Rabin of UC Berkeley, a consumer who,
from any initial wealth level turns down gambles where he loses $100 or gains $110, each with 50% probability will turn down 50-50 bets of losing $1,000 or gaining any sum of money.
It is noteworthy that Rabin's article went on to criticize the whole field of expected utility and not just constant relative risk aversion. This has led to some confusion in the field. One solution to the problem observed by Rabin is that proposed by prospect theory and cumulative prospect theory, where outcomes are considered relative to a reference point (usually the status quo), rather than to consider only the final wealth.
Read more about this topic: Risk Aversion
Famous quotes containing the word limitations:
“That all may be so, but when I begin to exercise that power I am not conscious of the power, but only of the limitations imposed on me.”
—William Howard Taft (1857–1930)
“... art transcends its limitations only by staying within them.”
—Flannery O’Connor (1925–1964)
“The only rules comedy can tolerate are those of taste, and the only limitations those of libel.”
—James Thurber (1894–1961)