32 terms

What is a decision?

A commitment to a course of action that is intended to produce a satisying state of affairs

Key components of decision making

Choice between actions

Goal orientated

Evaluating possible outcomes

Goal orientated

Evaluating possible outcomes

Different types of strategies

Strategic decisions

Tactical decisions

Operational decisions

Tactical decisions

Operational decisions

Strategic decisions

Time to make

Determine how decisions should be taken

General direction of an individual or organisation

Determine how decisions should be taken

General direction of an individual or organisation

Tactical decisions

Implementations of strategy

Represents stream of smaller scale decisions that usually don't take too long to make

Shorter term outcomes

Represents stream of smaller scale decisions that usually don't take too long to make

Shorter term outcomes

Operational decisions

Day to day decisions

Needed to execute plans and tactics

Needed to execute plans and tactics

Structured decisions

Clear objectives, clearly defined choice set and how one must evaluate

Unstructured decisions

General understanding of need to act but no clear idea of relevant goals and objectives

Normative theories

What people SHOULD do to be rational decision makers

Determines how rational people must maximise utility in way of prescribed economics, formal and based on axioms and assumptions

Simple and reasonable, based on underlying mathematical proof

Maximising best interests of decision makers or maximising subjective expected utility

Determines how rational people must maximise utility in way of prescribed economics, formal and based on axioms and assumptions

Simple and reasonable, based on underlying mathematical proof

Maximising best interests of decision makers or maximising subjective expected utility

Descriptive theories

What people actually do and how they do it rather than what they ought to do

Mathematical model based

Decision info is combined to determine choice or developed in behavioural terms identifying the psychological thinking process determining choice

Mathematical model based

Decision info is combined to determine choice or developed in behavioural terms identifying the psychological thinking process determining choice

Prescriptive decisions

Account of what we know about people's difficulties in decision making

Used to prescribe procedures people should follow if they want to make a good decision

Used to prescribe procedures people should follow if they want to make a good decision

Normative theory of risky decision making

- v influential across economics, management and finance

- people assumed to choose best option for themselves requires they are perfectly informed with available alternatives, their own beliefs and values and events that may happen in the world and likeliness of them to occur

Then determine what's best

Based on axioms

- people assumed to choose best option for themselves requires they are perfectly informed with available alternatives, their own beliefs and values and events that may happen in the world and likeliness of them to occur

Then determine what's best

Based on axioms

Key elements of Normative decision making

Alternatives

States of the world

Outcomes

Utilities and probabilities

States of the world

Outcomes

Utilities and probabilities

Decisions makers criteria and how is it determined

Maximising subjective expected utility (determined by summing the products of expected probability and utility for each outcome)

Decision maker should always take the option with the highest SEU

Decision maker should always take the option with the highest SEU

Two ways researchers approach choice?

- ignore complexity and assume simple orderliness

Simpler but less realism

Concrete methods for making decisions

More precise problems

- focus on confusion and complexity

More realistic but complex

More real life situ capture

Less concrete help for decision makers

Harder to make predictions

Simpler but less realism

Concrete methods for making decisions

More precise problems

- focus on confusion and complexity

More realistic but complex

More real life situ capture

Less concrete help for decision makers

Harder to make predictions

Logic of normative apporach

Decision makers strive to do what is best for themselves

Choose the one that offers the best payoff or minimum loss

Choose the one that offers the best payoff or minimum loss

Guesses

What the payoffs will be if an option is chosen

How valuable the payoffs will be

How valuable the payoffs will be

What does it mean to think of all risky decisions as gambles

All risky situations reduced to gamble like structures which is how we make decisions

Each option treated as a bet and DM chooses which one to make

Each bet has potential gains and losses depending on the event outcome

Each option treated as a bet and DM chooses which one to make

Each bet has potential gains and losses depending on the event outcome

Pascal gamble analogy

Bet on existence of God, first development of the theory

Bernoulli's gamble analogy

Games of chance, choose on a basis of multiplying probability of winning/ losing and amount to be won/ lost of each bet and choose the one with the highest outcome, reject any negative in value

Important things Bernoulli added

Need for utility rather than monetary value

Logic for insurance and treating insurance policies as bets

Logic for insurance and treating insurance policies as bets

Differences between games against nature and games against people

Against nature: not another person, just against the future e.g. Rolling a dice, weather

Against people: against another person e.g. Competition in the market place

Playing the stock market is a little of both

Against people: against another person e.g. Competition in the market place

Playing the stock market is a little of both

Prisoners dilemma?

Non zero sum game where payoffs between components are non symmetrical so highlights normative decision theory

Describe the prisoners dilemma?

Arrested after a theft and taken to separate rooms for questioning, given 3 options:

1) confess and friend doesn't = he gets 10 years and you go free

2) you confess and he does= both get 5 years

3) neither confesses= both go to jail on lesser charges

1) confess and friend doesn't = he gets 10 years and you go free

2) you confess and he does= both get 5 years

3) neither confesses= both go to jail on lesser charges

Basic decision dilemma

Situation where opportunity arises to make life better than current but may also make it worse than it is now

How to solve the basic decision dilemma?

Calculate expected utility of both and choose the highest e.g. Changing modules, whether to continue a relationship

Parts of the expected value model?

1) expected value

2) expected utility

3) subjective expected value

4) subjective expected utility

2) expected utility

3) subjective expected value

4) subjective expected utility

Expected value

Player has known probabilities and utility is isomorphic with objective value of payoffs

Expected utility

Knows objective probabilities but has non isomorphic utility

Subjective expected value

Only has his subjective probabilities but has isomorphic utility

Subjective exoected utility

Player has subjective probabilities and utility is not isomorphic with objective value of payoffs

Important difference between components

Whether the probability and value of outcomes is represented objectively or subjectively