Daniel Ellsberg

Bio: Daniel Ellsberg is an academic researcher from RAND Corporation. The author has contributed to research in topics: Ambiguity & Axiom. The author has an hindex of 10, co-authored 11 publications receiving 7266 citations.

Risk, Ambiguity, and the Savage Axioms

Abstract: Are there uncertainties that are not risks? There has always been a good deal of skepticism about the behavioral significance of Frank Knight's distinction between “measurable uncertainty” or “risk”, which may be represented by numerical probabilities, and “unmeasurable uncertainty” which cannot. Knight maintained that the latter “uncertainty” prevailed – and hence that numerical probabilities were inapplicable – in situations when the decision-maker was ignorant of the statistical frequencies of events relevant to his decision; or when a priori calculations were impossible; or when the relevant events were in some sense unique; or when an important, once-and-for-all decision was concerned. Yet the feeling has persisted that, even in these situations, people tend to behave “as though” they assigned numerical probabilities, or “degrees of belief,” to the events impinging on their actions. However, it is hard either to confirm or to deny such a proposition in the absence of precisely-defined procedures for measuring these alleged “degrees of belief.” What might it mean operationally, in terms of refutable predictions about observable phenomena, to say that someone behaves “as if” he assigned quantitative likelihoods to events: or to say that he does not? An intuitive answer may emerge if we consider an example proposed by Shackle, who takes an extreme form of the Knightian position that statistical information on frequencies within a large, repetitive class of events is strictly irrelevant to a decision whose outcome depends on a single trial.

Risk, ambiguity, and decision

Abstract: Acknowledgments Note to Reader Foreword, Isaac Levi 1. Ambiguity and Risk Vagueness, Confidence, and the Weight of Arguments The Nature and Uses of Normative Theory The Validation of Normative Propositions The Utility Axioms as Norms Normative Theory and Empirical Research 2. The Bernoulli Proposition A Possible Counterexample: Are there Uncertainties that are Not Risks? Vulgar Evaluations of Risk 3. The Measurement of Definite Opinions von Neumann-Morgenstern Utilities Probability as Price "Coherence" and "Definiteness" of Probability-Prices Appendix to Chapter Three On Making a Fool of Oneself: The Requirement of Coherence Acceptable Odds: Definite, Coherent, and Otherwise 4. Opinions and Actions: Which Come First? The Logic of Degrees of Belief Opinions that Make Horse Races Postulate 2: the "Sure-Thing Principle" Intuitive Probabilities and "Vagueness" Appendix to Chapter Four The Savage Postulates The Koopman Axioms 5. Uncertainties that are Not Risks The "Three-Color Urn" Example Vulgar Evaluations of Ambiguity Appendix to Chapter Five 6. Why Are Some Uncertainties Not Risks? Decision Criteria for "Complete Ignorance" Decision Criteria for "Partial Ignorance" 7. The "Restricted Hurwicz Criterion" The "Restricted Bayes/Hurwicz Criterion" Boldness and Prudence: the "n-Color Urn" Example Ignorance, Probability, and Varieties of Gamblers 8. Ambiguity and the Utility Axioms The Pratt/Raiffa Criticisms and the Value of Randomization Rubin's Axiom Allais and the Sure-Thing Principle Winning at Russian Roulette Bibliography

Prospect theory: an analysis of decision under risk

Abstract: This paper presents a critique of expected utility theory as a descriptive model of decision making under risk, and develops an alternative model, called prospect theory. Choices among risky prospects exhibit several pervasive effects that are inconsistent with the basic tenets of utility theory. In particular, people underweight outcomes that are merely probable in comparison with outcomes that are obtained with certainty. This tendency, called the certainty effect, contributes to risk aversion in choices involving sure gains and to risk seeking in choices involving sure losses. In addition, people generally discard components that are shared by all prospects under consideration. This tendency, called the isolation effect, leads to inconsistent preferences when the same choice is presented in different forms. An alternative theory of choice is developed, in which value is assigned to gains and losses rather than to final assets and in which probabilities are replaced by decision weights. The value function is normally concave for gains, commonly convex for losses, and is generally steeper for losses than for gains. Decision weights are generally lower than the corresponding probabilities, except in the range of low prob- abilities. Overweighting of low probabilities may contribute to the attractiveness of both insurance and gambling. EXPECTED UTILITY THEORY has dominated the analysis of decision making under risk. It has been generally accepted as a normative model of rational choice (24), and widely applied as a descriptive model of economic behavior, e.g. (15, 4). Thus, it is assumed that all reasonable people would wish to obey the axioms of the theory (47, 36), and that most people actually do, most of the time. The present paper describes several classes of choice problems in which preferences systematically violate the axioms of expected utility theory. In the light of these observations we argue that utility theory, as it is commonly interpreted and applied, is not an adequate descriptive model and we propose an alternative account of choice under risk. 2. CRITIQUE

The Framing of Decisions and the Psychology of Choice

Abstract: The psychological principles that govern the perception of decision problems and the evaluation of probabilities and outcomes produce predictable shifts of preference when the same problem is framed in different ways. Reversals of preference are demonstrated in choices regarding monetary outcomes, both hypothetical and real, and in questions pertaining to the loss of human lives. The effects of frames on preferences are compared to the effects of perspectives on perceptual appearance. The dependence of preferences on the formulation of decision problems is a significant concern for the theory of rational choice.

Advances in prospect theory: cumulative representation of uncertainty

Abstract: We develop a new version of prospect theory that employs cumulative rather than separable decision weights and extends the theory in several respects. This version, called cumulative prospect theory, applies to uncertain as well as to risky prospects with any number of outcomes, and it allows different weighting functions for gains and for losses. Two principles, diminishing sensitivity and loss aversion, are invoked to explain the characteristic curvature of the value function and the weighting functions. A review of the experimental evidence and the results of a new experiment confirm a distinctive fourfold pattern of risk attitudes: risk aversion for gains and risk seeking for losses of high probability; risk seeking for gains and risk aversion for losses of low probability. Expected utility theory reigned for several decades as the dominant normative and descriptive model of decision making under uncertainty, but it has come under serious question in recent years. There is now general agreement that the theory does not provide an adequate description of individual choice: a substantial body of evidence shows that decision makers systematically violate its basic tenets. Many alternative models have been proposed in response to this empirical challenge (for reviews, see Camerer, 1989; Fishburn, 1988; Machina, 1987). Some time ago we presented a model of choice, called prospect theory, which explained the major violations of expected utility theory in choices between risky prospects with a small number of outcomes (Kahneman and Tversky, 1979; Tversky and Kahneman, 1986). The key elements of this theory are 1) a value function that is concave for gains, convex for losses, and steeper for losses than for gains,

Causation and Effectuation: Toward a Theoretical Shift from Economic Inevitability to Entrepreneurial Contingency

Abstract: In economics and management theories, scholars have traditionally assumed the existence of artifacts such as firms/organizations and markets. I argue that an explanation for the creation of such artifacts requires the notion of effectuation. Causation rests on a logic of prediction, effectuation on the logic of control. I illustrate effectuation through business examples and realistic thought experiments, examine its connections with existing theories and empirical evidence, and offer a list of testable propositions for future empirical work.

Simple Heuristics That Make Us Smart

Abstract: Fast and frugal heuristics - simple rules for making decisions with realistic mental resources - are presented here. These heuristics can enable both living organisms and artificial systems to make smart choices, classifications, and predictions by employing bounded rationality. But when and how can such fast and frugal heuristics work? What heuristics are in the mind's adaptive toolbox, and what building blocks compose them? Can judgments based simply on a single reason be as accurate as those based on many reasons? Could less knowledge even lead to systematically better predictions than more knowledge? This book explores these questions by developing computational models of heuristics and testing them through experiments and analysis. It shows how fast and frugal heuristics can yield adaptive decisions in situations as varied as choosing a mate, dividing resources among offspring, predicting high school drop-out rates, and playing the stock market.