Journal article
Optimal self-protection in two periods: On the role of endogenous saving
Journal of economic behavior & organization, Vol.137, pp.19-36
05/01/2017
DOI: 10.1016/j.jebo.2017.01.017
Abstract
•Optimal two-period self-protection with endogenous saving.•Prudence lowers optimal self-protection.•Effects of interest rate risk.•Effects of changes in risk for generalized self-protection.•Endogenous saving restores single-period results on optimal self-protection.
Self-protection is a costly investment to reduce the probability of loss. This paper studies optimal self-protection in a two-period model with endogenous saving. In a setting with a binary loss we show that prudence is negatively associated with the optimal level of self-protection, consistent with results obtained in single-period models. We provide intuition for this finding with the help of a recent approach based on stochastic dominance. Furthermore, we determine the effect of interest rate risk on optimal self-protection and study a model in which a decision-maker engages in advance effort to increase the probability of facing a better risky situation. All our results suggest that the understanding of advance self-protection crucially hinges on whether the decision-maker also uses saving to optimize intertemporal consumption utility. If so, the fact that self-protection expenditures are upfront turns out to be irrelevant.
Details
- Title: Subtitle
- Optimal self-protection in two periods: On the role of endogenous saving
- Creators
- Richard Peter - University of Iowa, Department of Finance, USA
- Resource Type
- Journal article
- Publication Details
- Journal of economic behavior & organization, Vol.137, pp.19-36
- Publisher
- Elsevier B.V
- DOI
- 10.1016/j.jebo.2017.01.017
- ISSN
- 0167-2681
- eISSN
- 1879-1751
- Language
- English
- Date published
- 05/01/2017
- Academic Unit
- Finance
- Record Identifier
- 9984380553702771
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