INST 354 Lecture Notes - Lecture 13: Decision Analysis, Rational Expectations, Mental Model
10 Feb 2019
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Document Summary
The decision tree diagrams remind us that the crucial first step in understanding any decision is to describe the situation in which the decision occurs. That step may sound trivial, but the attempt to construct a summary diagram forces us to answer difficult questions about what to include and, more difficult, what to exclude. Then the diagram prompts us to solve the challenging problem of quantifying the uncertainties and values that define the decision. This rule is called the rational expectations principle, and it is usually summarized as an equation: Note that these calculations assume we can describe the decision process in terms of numerical probabilities and values and that arithmetic operations (adding, multiplying) describe the decision maker"s thought processes. The calculation also assumes that the decision maker thoroughly considers all (and only) the options, contingencies, and consequences in the decision tree model of the situation.
