Theories of justice in the spirit of Harsanyi and Rawls argue that fair-minded people should aspire to make choices for society — that is, for themselves and for others — as if in the original position, behind a veil of ignorance that prevents them from knowing their own social and economic positions in society. While the original position is a purely hypothetical situation, developed as a thought experiment, the main result of this paper is that (under certain assumptions) preferences — hence choices — behind the veil of ignorance are determined by preferences in front of the veil of ignorance. This linkage between preferences behind and in front of the veil of ignorance has implications for distributive theories of justice and for theories of choice.

The purpose of the financial system is to provide a service to its end-users, savers and investors. It provides a means for savers to earn a return and for investors to obtain funding. For financial intermediaries in contrast, the system's purpose is to provide a revenue source to those who can buy paper at a lower price than they sell it. Financial intermediaries neither intend to promote the interest of savers and investors nor pay special attention to whether they do it. Nevertheless they are the means by which most matches between savers and investors are made. The following chapters explore how the structure of trade---meaning its institutions, practices and technologies---motivates the financial intermediary ``to promote an end which was no part of his intention,'' as Adam Smith wrote. The first chapter studies a common trading institution, the limit-order book, and shows that the conditions for reliable information aggregation are related to the conditions for liquid trade. It is possible that the book's ability to aggregate information breaks down endogenously because participants refuse to trade when they are uncertain and are made uncertain by not trading. The second chapter studies a trading practice, front-running, a strategy of trading on information about future flows of trade. It shows that front-running can generate autocorrelation in prices, or price momentum, and offers an explanation of some asset price volatility in excess of fundamentals. The third chapter studies a trading technology, fast-responding algorithmic trading machines called high-frequency traders. It shows there is some merit to the idea that a technological improvement in trading speeds can be considered an arms race.

This dissertation consists of three essays divided into chapters. In chapter 1, I construct a theoretical model of dating and falling in love in an online environment. A relationship is an experimental, common value good and partners slowly learn its quality by observing private news. They always have the option to unilaterally break-up, go back to the website and, after some friction, be matched again with another partner. I construct the unique symmetric equilibrium, which consists of a honeymoon and a break-up phase. I also show the value of the website in the two extremes scenarios: non-friction dating and arranged marriage. Moreover, this value is non-monotonic in the friction.

In Chapter 2, which is co-authored with Greg Kubitz, we study a binary choice model where an agent makes a decision that is informed by his beliefs after observing a public signal. This model generalizes to a wide range of economic environments which require econometricians to estimate the beliefs of agents. With minimal structure imposed on the agent's utility function, we characterize the structure of information needed to identify the beliefs of the agent after observing both signals and decisions. We find that the information must be sufficiently convincing and dense for the agent's beliefs to be point identified. When the full range of information is relaxed, we show how the agents beliefs can be partially identified. Additionally, we explicitly show how the econometrician can construct the sharpest boundaries around the agent's beliefs as she observes signals and decisions.

In chapter 3, I go back to the topic of playing with altruism. There I construct a simple model of decision making with altruism and show that the utility of the agent receiving the gift can decrease with his initial endowment. The idea is somewhat straightforward and it becomes especially relevant when the good being gift is indivisible. When the agent allocating the gift is altruistic if the person receiving the good is sufficiently poor he will get the gift. Knowing the decision rule in the second stage, the agent receiving the gift has incentives to manipulate his outside option in the first period. I show that the amount of manipulation is always positive and increasing with altruism.

This dissertation consists of three chapters about decision making under uncertainty.

Chapter 1: “Testing between Models of Smoking Risk Perceptions”

Research in social and health psychology reports that smokers systematically underestimate the personal smoking risk. I build a model that captures potential determinants of smoking risk perceptions to investigate how smoking may cause an underestimation of the risk. The model is based on the premise that smokers have an incentive to be optimistic: because quitting may be hard, they find it reassuring to think that smoking is not so risky. Drawing upon the theoretical framework, I suggest two empirical tests of the model—one using survey data and another based on a laboratory experiment.

Chapter 2: “Does Uncertainty Cause Inertia in Decision Making? An Experimental Study of the Role of Regret Aversion and Indecisiveness”

Previous research has shown that in many situations there is clear inertia in individual decision making—that is, a tendency for decision makers to choose a status quo option. The status quo option may be the result of a previous choice, or may simply be the option designated as the “default.” While inertia may simply reflect the fact that individuals view the status quo option as optimal, there are other factors that may explain this observed behavior. I conduct a laboratory experiment to thoroughly investigate two potential determinants of inertia in uncertain environments: (i) regret aversion and (ii) indecisiveness. A decision maker may experience regret when the outcome of a choice compares unfavorably to the outcome that would have occurred had she made a different choice. Alternatively, a decision maker may be indecisive among the options if she does not know the probability distributions over the relevant outcomes. I use a between-subjects design, with varying conditions, to identify the effects of regret aversion and indecisiveness on choice behavior. In each condition, participants choose between two simple real gambles, one of which is assigned to be the status quo. I find that inertia is quite large and that both mechanisms are equally important.

Chapter 3: “Risk, Ambiguity, and Diversification”

Attitudes toward risk influence the decision to diversify among uncertain options. Yet, because in most situations the probability distributions over outcomes are unknown, attitudes toward ambiguity may also play an important role. In a simple laboratory experiment, I investigate the effect of ambiguity on the decision to diversify. Participants have the opportunity to diversify between gambles; in one condition, all gambles are risky, whereas in the other all gambles are ambiguous. I find that diversification is more prevalent and more persistent under ambiguity than under risk. Moreover, excess diversification under ambiguity is driven by participants who stick with a status quo gamble when diversification is not feasible. This behavioral pattern cannot be accommodated by major theories of choice under ambiguity.

Chapter 1 considers agents that aggregate several states of the world (i.e., the possible different realizations of an uncertain situation) into an event. They then compare bundles of consumption on these aggregated events, instead of having to consider bundles on each of the single possible realization. This simplifies the decision-making, since it decreases the number of distinguished realizations to consider. The collection of aggregated events of this type is called a subjective partition. In the case of Subjective Expected Utility, this kind of decision process does not affect agents’ choices. However, the presence of ambiguity (i.e., when agents do not know the probability associated with each possible realization of uncertain situations) changes their behavior dramatically: different subjective partitions lead to different preferences over bundles. Chapter 1 deals with preferences:

we provide axioms for a state aggregation model with ambiguity and show

under which conditions preferences imply uniqueness of the subjective partition.

Chapter 2 discusses choices obtained from the state aggregation model described in Chapter 1. We show identification of the subjective partition from

choices in a complete market setting. In addition, we demonstrate that the results can be applied to deductible insurance choices. Finally, we offer a set of revealed preference inequalities that allow for testing the model on a dataset.

Chapter 3 introduces a model of electoral choice that allows for derivation of

joint distribution of turnout and voter share from unobservable joint distribution

of costs of voting and preferences. Under a set of mild assumptions, we show

identification and provide non-parametric estimators of joint distribution of costs of voting and preferences over candidates from observable electoral data. All estimators are consistent and asymptotically normal.

While the impact of agent heterogeneity has long been recognized in the Economicliterature, the link between agent heterogeneity and international asset pricing is yet to be fully understood. In this dissertation I use an overlapping generations framework to study the impact that agent heterogeneity in risk aversion has on the real exchange rate determination. Chapter 1 presents and develops the theoretical model used to study the implications of agent heterogeneity in risk aversion on the real exchange rate. I introduce a twocountry model that features heterogeneous risk aversion profiles for agents, both within and between countries. Furthermore, it is shown that the model can explain the Cyclicality puzzle documented in Backus and Smith (1993), which highlights the empirical disconnect between the exchange rate and relative consumption growth. This chapter also presents the numerical outcome of the model. Chapter 2 explains the quantitative methodology used to code and find the numerical solution of the model presented in chapter 1. The model does not admit a closed form solution and thus the presented outcome relies on the application of Monte Carlo Methods, the Feynman-Kac Theorem and the Piccard Iteration Theorem. Finally, Chapter 3 presents recent empirical evidence on the Cyclicality puzzle between the US and 4 OECD countries: UK, France, Germany and Italy.