Understanding time-inconsistent heterogeneous preferences in economics and finance: a practice theory approach
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This paper introduces an innovative framework for decision making by individuals with inconsistent preferences. Practices, associations of individuals with a preference set shared by its members, provide context and unify preferences across an economy so that decision-makers are situated in social and economic structures. Our framework models the time evolution of certain attributes, emerging from the practice framework, that govern individuals’ decisions and their intertemporal variation. A novel feature is that preferences are able to rank other preference sets without the need to aggregate them. Instead, the selection of a preference set is treated as a decision in its own right. Our framework explains decision making paradoxes such as the disposition effect and agency cost considerations that are frequently encountered in the behavioural finance and economics literature.
KeywordsIntertemporal choice Time-inconsistent preferences Multiple selves Disposition effect Decision theory
JEL ClassificationD81 D91 G40
The authors would like to thank Anthony Ferner as well as participants at the 2014 Bachelier Finance Society conference, the 2014 BAFA conference, and from seminars at De Montfort University, Coventry University, the University of Durham and the University of Lancaster for their helpful comments and suggestions on earlier versions of this paper. We gratefully acknowledge the contribution of Yulia Rodionova and Syed Mansoob Murshed in the development of this paper.
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