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Questions and Answers
What is the expected value (EV) of Option A?
What is the expected value (EV) of Option A?
Which option has a higher expected utility (EU)?
Which option has a higher expected utility (EU)?
Why might expected utility theory be considered a poor description of reality?
Why might expected utility theory be considered a poor description of reality?
What does a concave utility function indicate about a decision-maker?
What does a concave utility function indicate about a decision-maker?
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In the context of expected utility, Option A provides:
In the context of expected utility, Option A provides:
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What is the utility of winning £3000 according to the given utility values?
What is the utility of winning £3000 according to the given utility values?
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Which statement about risk aversion is correct?
Which statement about risk aversion is correct?
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How does the presence of a losing option affect decision-making according to expected utility theory?
How does the presence of a losing option affect decision-making according to expected utility theory?
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Which option has a higher expected value?
Which option has a higher expected value?
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Why did most people choose Option B despite its lower expected value?
Why did most people choose Option B despite its lower expected value?
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In the formula for expected value, what does 'p' represent?
In the formula for expected value, what does 'p' represent?
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What does the expected value formula help an individual determine?
What does the expected value formula help an individual determine?
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What does 'risk averse' mean in the context of decision-making?
What does 'risk averse' mean in the context of decision-making?
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Which of the following best describes the expected utility in relation to expected value?
Which of the following best describes the expected utility in relation to expected value?
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What psychological phenomenon describes the tendency to value owned items more highly than non-owned items?
What psychological phenomenon describes the tendency to value owned items more highly than non-owned items?
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In the described experiment, what percentage of participants in Group 2 chose to keep the mug they owned?
In the described experiment, what percentage of participants in Group 2 chose to keep the mug they owned?
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What was the primary reason participants felt worse about losing an owned item compared to gaining a new one?
What was the primary reason participants felt worse about losing an owned item compared to gaining a new one?
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Which group had the least desire to keep the item they started with?
Which group had the least desire to keep the item they started with?
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What does a steeper loss function indicate in the context of the endowment effect?
What does a steeper loss function indicate in the context of the endowment effect?
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Which of the following best describes the behavior of Group 1 in the experiment?
Which of the following best describes the behavior of Group 1 in the experiment?
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What outcome is primarily associated with the endowment effect as described in the findings?
What outcome is primarily associated with the endowment effect as described in the findings?
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How does ownership influence the perceived value of an object?
How does ownership influence the perceived value of an object?
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What does the Attraction Effect suggest in decision-making?
What does the Attraction Effect suggest in decision-making?
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When comparing Option A (£460, 59 miles) and Option B (£707, 104 miles), which option might be considered more attractive based on the information provided?
When comparing Option A (£460, 59 miles) and Option B (£707, 104 miles), which option might be considered more attractive based on the information provided?
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What can be inferred about the impact of price on consumer choice from the provided information?
What can be inferred about the impact of price on consumer choice from the provided information?
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In the scenario, what is the probability of losing money when choosing Option B with a 30% chance of $33?
In the scenario, what is the probability of losing money when choosing Option B with a 30% chance of $33?
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Considering the options provided, which one did not provide a clear outcome in the Attraction Effect scenario?
Considering the options provided, which one did not provide a clear outcome in the Attraction Effect scenario?
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Which statement about the given probabilities can be considered inaccurate?
Which statement about the given probabilities can be considered inaccurate?
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What is the primary psychological phenomenon illustrated by the examples in the document?
What is the primary psychological phenomenon illustrated by the examples in the document?
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Why might consumers exhibit a preference for Option B over Option A despite its higher price?
Why might consumers exhibit a preference for Option B over Option A despite its higher price?
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What is the most rational choice for someone pursuing guaranteed outcomes in the first scenario presented?
What is the most rational choice for someone pursuing guaranteed outcomes in the first scenario presented?
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In the context of the disease prevention programs, what is the expected outcome of Program A?
In the context of the disease prevention programs, what is the expected outcome of Program A?
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What is the nature of the probability associated with Program B?
What is the nature of the probability associated with Program B?
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How do the outcomes in scenarios A and C differ in terms of financial impact?
How do the outcomes in scenarios A and C differ in terms of financial impact?
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What psychological effect did Kahneman and Tversky highlight regarding decision-making?
What psychological effect did Kahneman and Tversky highlight regarding decision-making?
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What is the discrepancy in perception between options A and B?
What is the discrepancy in perception between options A and B?
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What is the expected number of lives saved in Program B when considering its probabilities?
What is the expected number of lives saved in Program B when considering its probabilities?
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What implication does the term 'loss aversion' have on individuals' decision-making processes?
What implication does the term 'loss aversion' have on individuals' decision-making processes?
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What does prospect theory primarily describe?
What does prospect theory primarily describe?
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How often do large amounts typically enter bank accounts according to the theory?
How often do large amounts typically enter bank accounts according to the theory?
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In prospect theory, what is indicated by the concave shape of the curve for gains?
In prospect theory, what is indicated by the concave shape of the curve for gains?
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What does 'decision by sampling' refer to in the context of bank transactions?
What does 'decision by sampling' refer to in the context of bank transactions?
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According to Stewart et al. (2006), which is true about bank debits?
According to Stewart et al. (2006), which is true about bank debits?
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What does the phrase 'small amounts go into people's bank accounts often' imply?
What does the phrase 'small amounts go into people's bank accounts often' imply?
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What aspect of prospect theory is described as 'purely descriptive'?
What aspect of prospect theory is described as 'purely descriptive'?
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Which of the following best summarizes the conclusion regarding the handling of large sums of money?
Which of the following best summarizes the conclusion regarding the handling of large sums of money?
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Study Notes
Decision-Making Lecture Structure
- The lecture will cover the differences between rational decision-making and human decision-making.
- It will also explore Prospect Theory as a model for human decision-making under risk.
- Lastly, it will discuss the empirical and conceptual issues with Prospect Theory.
Learning Outcomes
- Students will understand the relationship between expected value, expected utility, and risk aversion.
- Students will be able to identify key features of Prospect Theory and define associated behavioral phenomena which align with the theory.
- Students will be able to describe behavioral phenomena that are inconsistent with Prospect Theory.
- Students will be able to describe Decision by Sampling and compare it to Prospect Theory.
Riskless Multiattribute Choice
- The lecture notes depict a selection of food items (like canned goods) displayed in rows for a riskless multiattribute choice example.
Intertemporal Choice
- People tend to prioritize immediate rewards over future ones.
- For example, someone might turn down a larger future amount of money in favour of a smaller amount immediately.
Decisions Under Uncertainty
- Decisions under uncertainty occur when the probability of particular outcomes is unknown.
- For instance, deciding whether to take an umbrella when the chance of rain is unknown is a decision under uncertainty.
Decisions Under Risk
- Decisions under risk occur when there is an understood likelihood of different outcomes.
- An example is placing a bet where the probability of winning or losing is known.
Expected Value
- Expected value (EV) is calculated by summing the product of each outcome's value and its probability.
- EV= p1a1 + p2a2 + p3a3 + ...+ pnan, where a is outcome of an action, p is probability of the outcomes.
- The decision that has the highest EV is typically chosen to maximize your expected gain.
Expected Value Example
- Option A: 80% chance of £4,000, 20% chance of nothing;
- Option B: £3,000 for sure;
- Most people choose option B because it guarantees £3,000, rather than taking a gamble.
Expected Utility
- Expected utility is different from expected value.
- Expected utility theory uses concave utility function for gains and convex for losses.
Expected Utility Theory
- A rational, prescriptive account of choice, but is a poor description of reality.
Violations of Expected Utility
- People's behavior often violates expected utility theory.
- Decisions involving gains and losses and probabilities are often inconsistent with expected utility predictions.
Violations of Expected Utility Example
- A 50% chance of gaining £1,000 or losing £1,000 is less appealing than to gain £500 for sure.
The Framing of Decisions
- The way choices are presented affects the outcome.
- Example: Choosing between two options in terms of lives saved/lost can be seen to sway choices.
Prospect Theory – Problems
- Prospect theory has some limitations in its scope of application.
- It lacks explanation, describing decision-making but not why people behave a certain way.
Prospect Theory – Valuation vs Choice
- How individuals value decision-making differs from the process of making choices.
Prospect Theory - Attraction Effect
- The presence of a third, unattractive option may influence the choice of another prospect, causing the selected option to be more attractive.
Prospect Theory – Decision Weights Function
- In prospect theory, the relationship between probability and valuation is non-linear.
Prospect Theory Summary
- Prospect theory uses rounding numbers for processing, reference points, a value function, and decision weights to help decision-making.
Prospect Theory Structure
- The lecture will demonstrate how human decision-making deviates from rational decision-making.
- It will also show how those discrepancies have led to Prospect Theory as a model for understanding human decision-making under risk conditions.
- Lastly, it will analyze the empirical and conceptual hurdles within Prospect Theory.
Prospect Theory Problems: Limited Scope
- A limitation of Prospect Theory is its limited scope, lacking explanations for why people make certain choices. It can predict choices, but not the underlying reasons.
- There are certain situations where Prospect theory’s predictions are inconsistent.
Prospect Theory – Problems: Purely Descriptive
- Prospect theory is purely descriptive in describing how people make decisions, but it does not attempt to explain why people make these choices.
- The model describes how people make decisions, not why.
Prospect Theory - Decision by Sampling
- When making decisions based on sampling, people tend to frequently prioritize small amounts and less frequently large sums of money.
Conclusions
- The conclusion section provides a high-level understanding of the core of the decisions in various contexts.
- It is important to understand why people make certain decisions to effectively improve or influence those decisions.
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Description
Test your understanding of expected utility theory with this quiz. You'll explore concepts like expected value, risk aversion, and decision-making under uncertainty. Dive into questions regarding utility functions and the psychological phenomena influencing choices.
