Risk, uncertainty, and ignorance in decision-making

Decision theory distinguishes conditions of risk, where the probabilities associated with possible outcomes are known, conditions of uncertainty, where they can be estimated with some degree of vagueness, and conditions of ignorance, where they are completely unknown. Studies of decision under risk, uncertainty, and ignorance have uncovered two important violations of expected utility theory that are elaborated in this dissertation: diminishing sensitivity and source preference. Diminishing sensitivity is the tendency for an event to have greater impact when it turns impossibility into possibility, or possibility into certainty, than when it merely makes a possibility more or less likely. A series of studies provides support for this principle under conditions of both risk and uncertainty, and shows that people are less sensitive to uncertainty than to risk, and less sensitive to unfamiliar sources of uncertainty than they are to familiar sources of uncertainty. Source preference refers to the finding that willingness to act depends not only on the degree of uncertainty but also on its source. Perhaps the best known example is Ellsberg's (1961) observation that people prefer betting on clear than on vague probabilities. This phenomenon, called ambiguity aversion, has been confirmed in many studies, but the conditions under which it arises have not been clearly delineated. According to the comparative ignorance hypothesis, ambiguity aversion is produced by a direct comparison between more and less ambiguous events or between the decision maker and more knowledgeable individuals. This hypothesis is supported in a series of studies showing that ambiguity aversion, present in a comparative context in which a person evaluates both clear and vague prospects, diminishes or disappears in a noncomparative context in which a person evaluates only one of these prospects in isolation. Likewise, subjects' willingness to bet on their judgment of an unfamiliar event decreases when they are made aware of other people who are more knowledgeable. A final chapter explores the relationship between probability judgments and decision weights, and discusses the role of diminishing sensitivity and comparative ignorance in a descriptive theory of choice under risk, uncertainty, and ignorance.