Risk aversion in the large and in the small

Estimates of agents' risk aversion differ between market studies and experimental studies. We demonstrate that these estimates can be reconciled through consistent treatment of agents' propensity for narrow framing.

► We analyze risk aversion implied by market returns and by experimental research. ► We give an aggregation result showing that the two views should be consistent. ► The equity premium puzzle indicates that these views lead to inconsistent risk aversions. ► We resolve this problem by revealing the different auxiliary assumptions of the two views. ► The auxiliary assumptions refer to the way in which background wealth is treated.