Management Science · 2001 · 329 citations · 70 references
BusinessDecision SciencesPsychologyDecision AnalysisDecision MakingDecision TheoryBehavioral Decision-makingLoss AversionProspect TheoryUtility Elicitation MethodsUtility FunctionsUtility TheoryBiasesBiases ApproachElicitation Of Utility FunctionsExpected Utility TheoryPreference Under UncertaintyProspect Theory ApplicationsUtility ElicitationUtility Function Estimation
Decision analysis traditionally relies on expected utility for both prescriptive decision making and descriptive utility elicitation, yet observed violations bias these elicitations and, because their magnitude is unclear, most studies still use the standard expected‑utility formula. The authors aim to quantitatively modify standard utility elicitation methods, such as probability and certainty equivalence, by incorporating prospect‑theory insights on probability weighting and loss aversion to correct for these violations. They provide explicit corrections to the probability and certainty‑equivalence procedures and recommend using the adjusted utilities in optimal‑decision prescriptions when interactive bias‑correction sessions are infeasible. Experimental results show that the proposed corrections eliminate the systematic discrepancies between the probability and certainty‑equivalence methods that previously indicated bias.
This paper proposes a quantitative modification of standard utility elicitation procedures, such as the probability and certainty equivalence methods, to correct for commonly observed violations of expected utility. Traditionally, decision analysis assumes expected utility not only for the prescriptive purpose of calculating optimal decisions but also for the descriptive purpose of eliciting utilities. However, descriptive violations of expected utility bias utility elicitations. That such biases are effective became clear when systematic discrepancies were found between different utility elicitation methods that, under expected utility, should have yielded identical utilities. As it is not clear how to correct for these biases without further knowledge of their size or nature, most utility elicitations still calculate utilities by means of the expected utility formula. This paper speculates on the biases and their sizes by using the quantitative assessments of probability transformation and loss aversion suggested by prospect theory. It presents quantitative corrections for the probability and certainty equivalence methods. If interactive sessions to correct for biases are not possible, then the authors propose to use the corrected utilities rather than the uncorrected ones in prescriptions of optimal decisions. In an experiment, the discrepancies between the probability and certainty equivalence methods are removed by the authors' proposal.
70
Prospect Theory: An Analysis of Decision under Risk
Daniel Kahneman, Amos Tversky · Econometrica · 1979 · 47K citations
Judgment under Uncertainty: Heuristics and Biases
Amos Tversky, Daniel Kahneman · 1975 · 23.1K citations
The Framing of Decisions and the Psychology of Choice
Amos Tversky, Daniel Kahneman · Science · 1981 · 17.3K citations
Risk, Ambiguity, and the Savage Axioms
Daniel Ellsberg · The Quarterly Journal of Economics · 1961 · 7.9K citations
Business, Mathematics, Philosophy +12