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What impacts the impact of rare events

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Abstract

Kahneman and Tversky (Econometrica 47:263–291, 1979) argued that “unlikely events are either neglected or overweighted,” but left the task of identifying factors that determine which of these contradicting biases occur to future research. We present four studies designed to tackle this issue in the context of decisions from incomplete descriptions. Our findings suggest that the impact of unlikely events increases when they become more similar to their comparison stimuli, and when they are explicitly presented. Using these factors we reversed the findings in variants of classic gambles in the history of decision research, the Allais and the St. Petersburg gambles.

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Notes

  1. In a recent meta-analysis of all studies involving decisions between a two-outcome risky prospect and a sure thing (with equal expected value), Weber, Shafir, and Blais (2004) found that all 226 choice situations called for decisions from descriptions.

  2. This observation does not imply that studies that use the certainty equivalence lead to biased results. Rather, it implies that the observed results (the implied deviation from optimal weighting of rare events) can be safely generalized to similar contexts, but not to any other contexts.

  3. Because the means are biased by the limited range in the AS-Rare-context, we focus on the medians.

  4. As a consequence, participants in the mere-presentation condition had more information (they knew the outcomes). In our view this fact is not an experimental artifact. Rather we suspect that in many real-world domains (e.g., purchase of insurance) people are aware of the possible outcomes but hold little information about their probabilities. In Study 3 we consider an environment in which presentation of the possible outcomes does not add information.

  5. As noted by Blavatskyy (2005), influential models, like cumulative prospect theory, cannot capture behavior in the Allais and St. Petersburg problems with the same set of parameters.

  6. This rule is similar but not identical to the priority rule in the priority heuristic (Brandstätter et al. 2006). According to this rule, reasons are considered in the order: minimum gain, probability of minimum gain and maximum gain. Because there are no explicit probabilities available, the priority-tie-breaking rule skips the second reason.

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Authors and Affiliations

  1. The Max Wertheimer Minerva Center for Cognitive Studies, Faculty of Industrial Engineering and Management, Technion—Israel Institute of Technology, Haifa, 32000, Israel

    Ido Erev & Ira Glozman

  2. Department of Psychology, University of Basel, Basel, Switzerland

    Ralph Hertwig

Authors
  1. Ido Erev
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  2. Ira Glozman
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  3. Ralph Hertwig
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Correspondence to Ido Erev.

Additional information

*We are grateful to Valerie M. Chase and Laura Wiles for editing the manuscript. We also thank the Jewish Communities of Germany Research Fund for a grant to the first author (Technion V.P.R. fund), and the Swiss National Science Foundation for their support of the third author (Grants 100013-107741/1 and 100014-118283/1). Part of this research was conducted while Ido Erev was a Marvin Bower Fellow at the Harvard Business School.

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Erev, I., Glozman, I. & Hertwig, R. What impacts the impact of rare events. J Risk Uncertainty 36, 153–177 (2008). https://doi.org/10.1007/s11166-008-9035-z

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