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The Value Function with Life Satisfaction Data

Publication: ResearchWorking paper

Documents

Ohto Kanninen, Daniel Gerszon Mahler

Prospect theory and its empirical applications have shown that in some contexts people make choices based on the value of those choices relative to a reference point. The resulting mapping from outcomes to utility is called the value function and it exhibits loss aversion and diminishing sensitivity. These properties make the value function an S-curve with a kink at the reference point. In this paper, we use the German Socio-Economic Panel (n > 250; 000) to test whether the properties of the value function extend from narrow gambling choices in experiments to yearly changes in earnings evaluated with life satisfaction. We nd that the mapping from changes in earnings to life satisfaction mimics the predicted S-curve remarkably well when the reference point is generated from individuals' past earnings. This nding is robust to a large set of alternative specications. In congruence with experimental evidence, we nd that earnings losses have around 2 times greater impact on life satisfaction than earnings gains. We emphasize that the S-curve we nd need not be causal, since the changes in earnings were based on observational data. However, we can rule out that certain other factors produced the observed relationship, including expected utility theory.
Original languageEnglish
Number of pages41
StatePublished - 2017

    Research areas

  • Faculty of Social Sciences - Prospect theory, loss aversion, life satisfaction, subjective well-being, D03, D60, I31

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