LEC 3 - ANOMALIES IN EXPECTED UTILITY THEORY Flashcards
what is a prospect
a number of possible outcomes along with their associated probabilities
what axiom does Allais violate
Independence/substitution axiom
Also called Common consequence effect
Sure-thing principle
Your decision should not be influenced by sure things
whats the axiom completeness mean
always have a preference
how would you write a prospect r with a 50% chance of winning 100 and 50% chance of not winning anything
how would you write the prospect S: certainty of winning 45
S=(45)
what does the EUT axiom for completeness mean for all q, r
either q>r or r>q or q∼r (indifferent)
what’s the EUT axiom for transitivity mean
what does the EUT axiom continuity say
can write r as a combination of q and s
what’s the independence EUT axiom and example
for all prospects q r s
if q>r then (q, p;s, 1-p)> (r, p; s, 1-p), for all p
can make probability tree for example
allais problem (common consequence effect), independence problem, example, how to set it up
common ratio effect
difference between allais and Ellsberg paradox
Allais Paradox; objective probabilities
were known
Ellsberg (1961); no objective
probabilities
what’s the Ellsberg paradox
The Ellsberg paradox is a paradox of choice in which people’s decisions produce inconsistencies with subjective expected utility theory
how does the Ellsberg paradox violate SEU
we don’t think in terms of these probabilities. just don’t like the probabilities are not given
in subjective expected utility how can we tell if x is preferred to y
x is preferred to y if SEU(x) is larger than SEU(y)
subjective EU
