Question

Missed this one Consider a person with the following value function under prospect theory: v(w)=(w^(1/2)) if w ? 0 v(w)=-(3)((-w)^(1/2)) if w<0 where w=wealth. Is this individual loss averse?

a. Yes.
b. No.
c. Cannot be determined from information provided.

Answer 1

a. Yes.

The individual with the given value function under prospect theory is loss averse because the function for losses has a greater weight than for gains, which signifies a stronger negative impact of losses.

Step-by-step explanation:

The question asks if an individual with a specific value function under prospect theory is loss averse. The value function presented is v(w)=(w^(1/2)) if w ≥ 0 and v(w)=-(3)((-w)^(1/2)) if w<0. Loss aversion refers to the phenomenon where the pain of losing is psychologically about twice as powerful as the pleasure of gaining. In this case, since the value function for losses is multiplied by 3, it indicates a greater weight given to losses than gains, which clearly points to loss aversion. Therefore, the answer is a. Yes, the individual is loss averse as they perceive losses more intensively than gains.