Some Complications: Risk, Uncertainty and Search

Abstract

Whilst all standard presentations of microeconomic theory and choice behaviour find it desirable to complicate the neat results of choice under riskless, certain conditions by introducing more realistic assumptions of the choice environment, it can easily be seen that consideration of spatial choices requires this fundamentally. The assumption of perfect knowledge specifically falls down when we consider actions taking place over space and whenever there are imperfections in knowledge all actions will be subject to a degree of risk. Risk, however, is a quantifiable phenomenon. The existence of risk implies that although the economic agent does not know precisely the outcome of a given decision he can assign probabilities to those outcomes and hence obtain an expected value. For example, if a businessman is 90 per cent certain of a £1000 pay-off on an action, he can be said to have an expected pay-off of £900 (= £ 1000 × 0.9). Moreover, he can rank several possible pay-offs and assign probabilities to each, for example, 90 per cent certain of £1000 but with a 5 per cent chance of receiving only £500 and a 5 per cent chance of a zero pay-off: the expected value of the action becomes £925 (= (£ l000 × 0.9) + (£500 × 0.05) + (£0 × 0.05)). The essence of risk is that it is quantifiable and therefore that the agent can insure against certain events happening. These keywords were added by machine and not by the authors. This process is experimental and the keywords may be updated as the learning algorithm improves.

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