1. Risk or Loss Aversion? Evidence from Personnel Records
Emil P. Iantchev
Syracuse University
Econometric Society Meetings
21 June 2008

2. Outline Basic Idea Example This Paper
Models of imperfect risk-sharing can be utilized to obtain novel information about attitudes towards risk
Example
Risk-sharing in the presence of moral hazard
This Paper
Derive optimal sharing rule: moral hazard, risk-neutral principal, loss-averse agent
Estimate model parameters using micro data
Risk or loss aversion? Goodness-of-fit simulations
Emil P. Iantchev
Risk or Loss Aversion?

3. Loss Aversion and Moral Hazard
Static Principal-Agent Model
S output levels-Y1<…<YS and two effort levels-H and L
MLRC: PsH / PsL non-decreasing in s
Output contractible, lower bound, wmin, on ex-post transfer to agent
Principal risk-neutral
Preferences of Agent
v(w-r) +D(L)e
r-reference transfer
e-cost of high effort
Strong Los Aversion:
(v’ )-(0)/(v’ )+(0) > 1 and
(v’ )(wmin-r)/(v’)+(0) > 1
Diminishing sensitivity:
(v’’ )(x) < 0 for x > 0
(v’’ )(x) ≥ 0 for x < 0
Emil P. Iantchev
Risk or Loss Aversion?

4. Optimal Sharing Rule Pros Cons Commonly observed in practice
Figure: Transfer as a function of output
Pros
Commonly observed in practice
Ties in termination as a disciplining device
Cons
What determines r?
MLRC?
Evidence of punishment?
Improved model fit?
Emil P. Iantchev
Risk or Loss Aversion?

5. Estimating the Model Safelite Corp. Dataset [Lazear. (2000). AER]
Table: Descriptive statistics
Safelite Corp. Dataset [Lazear. (2000). AER]
Switched workers from fixed wages to incentive pay (PPP) over the period Jan 94-Jun 95.
Environment in company close to model assumptions
Incentive contract adopted by Safelite—piece rate with a minimum guarantee—commonly used in practice
Emil P. Iantchev
Risk or Loss Aversion?

6. What Determines r ? Prevalent Contract in the Market
C*=({b*s }s, a*) prevalent contract => r = E[b* |a*]
Competitive Market
No single principal can influence reference point by deviating
Safelite Case
Deviation by one principal from prevalent (fixed wage) contract.
Agent reference point
r = w = E[Y|L]
in both regimes.
Under PPP over 93 percent of Safelite employees given a guarantee precisely equal to their previous wage rate.
Emil P. Iantchev
Risk or Loss Aversion?

7. Estimating the Output Process
Estimation and Simulation Samples
ln[uadit]~ N(μit,σ2it)
μit=βμ.effortit+δμ.Zit
ln[σ2it]=βσ.effortit+δσ.Zit
Pooled OLS adjusting for attrition (IPW)
Table: Estimates of output parameters
Note: Individual characteristics include job category, quadratic in tenure, and initial wage or hourly guarantee .
Emil P. Iantchev
Risk or Loss Aversion?

8. Punishment Region ? Discrete Hazard Model
Table: Separation estimates, logistic hazard model
Discrete Hazard Model
sit = Pr(Ti =t |Ti ≥t, Xit )
Ti—i’s tenure with the firm
Xit –observables, including current output realization
Non-linear Relation between Output and Separations under PPP
Split output distribution in 10 categorical variables
Emil P. Iantchev
Risk or Loss Aversion?

9. Estimating Preferences
Table: GMM estimates of several preference models
GMM Estimation
Estimate Λ, γg , γl , wmin (Xit,ψ), e(Xit,ξ) via GMM on the incentive and participation constraints.
Utility Function
v(x) = x + γg.x2 for x > 0
Λx + γl.x2 else.
Emil P. Iantchev
Risk or Loss Aversion?

10. Goodness-of-fit Simulations
Table: Assessing the goodness-of-fit for several preference specifications, simulation sample.
Significant Cost Difference
On average, the cost difference between M1 and M2 is about $650 per person-month.
Emil P. Iantchev
Risk or Loss Aversion?

11. Summary This Paper Risk or Loss Aversion?
Derived optimal sharing rule: moral hazard, risk-neutral principal, loss-averse agent
Estimated model parameters using micro data
Assessed goodness-of-fit for various preference specifications
Risk or Loss Aversion?
Loss Aversion
Reference dependence, loss aversion, and diminishing sensitivity provide greater flexibility in the local curvature of the utility function.
Helps match better the non-linear features of observed sharing rules.
Emil P. Iantchev
Risk or Loss Aversion?