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LINKED RECURSIVE PREFERENCES AND OPTIMALITY
Author(s) -
Levental Shlomo,
Sinha Sumit,
Schroder Mark
Publication year - 2016
Publication title -
mathematical finance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.98
H-Index - 81
eISSN - 1467-9965
pISSN - 0960-1627
DOI - 10.1111/mafi.12047
Subject(s) - economics , portfolio , pareto optimal , expected utility hypothesis , volatility (finance) , consumption (sociology) , mathematical optimization , pareto principle , moral hazard , externality , mathematical economics , class (philosophy) , microeconomics , econometrics , computer science , multi objective optimization , mathematics , incentive , financial economics , social science , artificial intelligence , sociology
We study a class of optimization problems involving linked recursive preferences in a continuous‐time Brownian setting. Such links can arise when preferences depend directly on the level or volatility of wealth, in principal–agent (optimal compensation) problems with moral hazard, and when the impact of social influences on preferences is modeled via utility (and utility diffusion) externalities. We characterize the necessary first‐order conditions, which are also sufficient under additional conditions ensuring concavity. We also examine applications to optimal consumption and portfolio choice, and applications to Pareto optimal allocations.