Difference Between Prospect Theory And Prospect Theory

The primary form of consequentialism used by the majority of individuals when making ethical decisions is known as Utilitarianism. Utilitarianism weighs the outcomes by whether they create pleasure or pain for the individuals involved. This creates a standard when evaluating the consequences rather than allow the individual to create their own (Kyte 108). Even though there is a plethora of different pleasures and pains of various forms and severities. Since we often choose familiar pleasure, only an individual familiar in both side can voice their opinion based on their understanding of both sides. However, it is not always easy to make accurate predictions on the outcomes and also consider the consequences of every individual that could be effected by the decision (Kyte 120, 122). Even though we understand the concept of consequences, it is not easy to think of every potential one, how they affect others, and whether they cause pleasure or

Good post and I choose game theory as well. Game theory deals with any situation in which the reward of any one player (called the payoff) depends on not only his or her own actions but also on those of other players in the game. Game theory provides a technique that is suited to investigate such interactions, but as applied in the research literature it is a far more mathematical treatment than might be suggested by our attempt to explain its nature in a simple way.

Consider an example of a very hungry shopper (forgot to have lunch) went to the grocery store to d his weekly shopping. If his present state of hunger provokes him to buy a large dinner portion for consumption on the day later in the week when he will eat lunch in his office, then he had made an error in predicting the future outcome that has led to a bad choice. His outcome was labelled as ‘projection bias’ since the shopper was projecting his current mental state onto a future one. The projection bias entails violation of utility maximization.

Economists have often modelled human decision makers as completely rational. According to this model, rational people know their own preferences, gather and accurately process all relevant information, and then make rational choices that advance their own interests. However, Herbert Simon won a Nobel Prize in economics by pointing out that people are rational, but only boundedly so in that they seldom gather all available information, they often do not accurately process the information

The third principle of individual economic decision-making relates to marginal decision-making. Rational people will think at the marginal level, making small changes or tweaks in their plans to achieve the desired objective. Rational people normally have a certain system or method he/she uses to achieve their objective and they understand that sometimes small changes must be made to accomplish this.

Prospect theory is an important alternative descriptive theory for decision-making under unreliable situation (Kahneman and Tversky 1979), which includes real life selection and psychological analysis between choices that involve risk. Prospect theory, which efforts to explain individual make decisions between risky replacements based on the value of potential gains and losses (Wakker 2010), advanced from expected utility theory, which explains that investors want to maximize expected utility of wealth when unclearly situations (Blavatskyy 2007). According to Kahneman and Tversky (1992), more recent researches perceived nonlinear preferences in choices that do not involve definite events in prospective theory. The concept of framing effect refers description invariances (Kahneman and Tversky 1992). To be specific, individual always makes the same decision in identical choice conditions. Also, decision makers have tendency to

The efficient market, as one of the pillars of neoclassical finance, asserts that financial markets are efficient on information. The efficient market hypothesis suggests that there is no trading system based on currently available information that could be expected to generate excess risk-adjusted returns consistently as this information is already reflected in current prices. However, EMH has been the most controversial subject of research in the fields of financial economics during the last 40 years. “Behavioural finance, however, is now seriously challenging this premise by arguing that people are clearly not rational” (Ross, (2002)). Behavioral finance uses facts from psychology and other human sciences in order to

The beauty of Kahneman's career is that it comes in almost a step ladder fashion. Each one of his works builds upon the endings of the other. Where Kahnaman and Tversky leave off in the physical nature of psychology in relation to pupil diameter they dive into the more intrinsic nature of psychology and focus on why people think the way they do. This would lead them to their next major endeavor and the formulation of the Prospect Theory. In which it discusses how people form decisions about uncertainty. It is based primarily on two important functions, the value function, and the weighting function. The way people view the value of X item whether it be wealth or money is not something that we view linearly. When we look at the graph we can see that on both ends of

This distinctive book called, “Thinking, Fast and Slow” by Daniel Kahneman, is one of very few exquisite readings I’ve completed so far. Daniel Kahneman is a psychologist in Princeton University, and due to his research, he won a Nobel Prize in 2002 in economics. In the beginning of his book, he speaks of our cognitive System 1 and System 2 ways of thinking. System 1 generates feelings, impressions, and memory. It is very instinctive, automatic, and is considered quick thinking. System 2 on the other hand, is alert during complex problem solving, while dealing with facts and knowledge, and is attentive while working with difficult calculations. For example, a problem such as 24 x 13, this takes more time and knowledge to figure out (System 2), rather then recognizing an emotion from face expressions (System 1). When System 1 is strained, your System 2 steps in to help you process through that specific instant. Now aside from the psychological portion of this book, Mr. Kahneman divulges about a consolidated economic analysis with elemental intuitions from the psychological perspective; such as, luck and skill, overconfidence, risks in the stock market, factors of success and the decision making process. This book is overall concluded with the understanding of behavioral economics, which is the social and cognitive components on economic decisions that are defined by individuals and have consequences that reflect from making those decisions and taking those risks.

Kahneman’s article is an analysis of intuitive thinking and how it guides our decision-making. Although primarily aimed at the field of psychology, it is an interdisciplinary article with applications in economic theorising. Kahneman attempts to differentiate between two systems of thought, one of intuition (system 1) and one of reasoning (system 2), and argues that many judgements and choices are made intuitively, rather than with reason (a slower and more deliberate process). Intuitive decision making, which encompasses heuristics, although generally more efficient and rapid, makes the agent potentially subject to errors due to framing effects or violations of dominance. The analysis of the studies and theoretical situations also provides criticism of the commonly held model of the rational agent within economics. The article also further conceptualises Kahneman’s theory, the Prospect Theory (Kahneman & Tversky, 1979), which has descriptive applications of people’s choice in decision-making situations involving risk and known probability of outcomes. These situations are typically unexplained by the more normative rational agent model.

The action that leads to the greatest net outcome of utility is then considered to be the correct choice. According to this theory, Alistair should choose the action that will maximise happiness and minimise unhappiness.

which is known as the principle of utility. In deciding on the best outcome, they might fill

Utilitarianism seeks the greatest good for the greatest number of people. They believe that they should make decisions that result in the greatest total utility, that is, achieve the greatest benefit for all those affected by a decision. Utilitarian decision making relies on a systematic comparison of the costs and benefits to all affected parties. (Ferrel et al: 2005, p.98)

My independent research in the field started with my curious interest in the processes of how decisions made by individuals and governments, what are the main factors encouraged them to choose particular decision over other options and the outcomes of those decisions. Then, I started to read theories of great Economists, such as, Keynes, Freidman , Devenport, Kinnerly and Mason who wrote on decision-making and the ability of individual to interpret the information. Additionally, there were theories by De Bondt , Clark , Tversky and Kehnman who argued that human psychology is interconnected with economics which cannot be ignored. Learning those theories and comparing them with the real life happenings, my enthusiasm to get deeper insights of economics increased. Encouraged by this, I have compiled

Game theory is one to more complexed topics but reveals a clear understanding from different scholars. Don Ross explained that game theory is the study that interacts with the different choices of economics agents which bring forth many different outcomes with the point to the preferences of those agents, where the outcomes in question might have been intended by none of the agents (Ross, 2016). The properties that game theory considers in economic situations include two or more 'economic actors ' - that is, two or more firms, individuals, political parties, etc. Each individual economic actor has a set of decisions they can make - what price to charge, how much to save, whether to move right or left, etc. Each individual economic actor has a 'goal ' or payoff, such as profit maximization, maximize happiness, minimize loss, etc.