No one foresaw the coming of COVID-19 and its consequences on life and economics. The stock market can enjoy a boom that makes people rich, while it can also suffer a crash that evaporates wealth. No one can say for sure that they will not run into a car accident during the next year, and many people purchase a lottery in order to get a chance of becoming rich overnight. In strategic alliances, firms can never be sure how their partners will act in various situations because they are likely to have diverging interests and expectations, and a majority of these expectations either cannot be put into a contract or cannot be verified at court.
All the above-mentioned events have something in common – they are all plagued by uncertainty. Indeed, the turbulent world makes our life full of uncertainty: hardly any big decision in our life leads to a sure outcome, neither does the strategy set by a firm or the policy set by the government. Because uncertainty is so prevalent in our social and economic lives, it is important to understand how to cope with them.
Using decision theory, game theory, human subject experiments, as well as empirical analysis, our group aims to understand how economic agents act in the presence of environmental uncertainty and strategic uncertainty. Our research sheds light on how to make wise decisions and increase economic efficiencies in the turbulent world full of uncertainty.
Our research topics within this field include:
• Learning and transfer of knowledge: people make decisions continuously and from each decision they make, they learn. Any decision we make, any interaction we have (at work, in the shops, with our family,…) teaches us something. We study how people learn based on experience and how they transfer the learned information in new situations.
• Cooperation and collaboration: in many work-related situations, production is the result of the interaction of several agents. A cooperating group can achieve more than the sum of what each individual can achieve on his/her own. We study how cooperation emerges, how surplus is distributed across team members, and how the allocation of surplus affects cooperation.
• Emotions and Decision under Uncertainty: Using lab experiments, we investigate why biases arise in risky decision making and how to reduce them. People’s judgment is clouded by emotions; the anticipated elation or disappointment related to an outcome can lead to biases and irrational decisions. For example, many people constantly purchase lotteries because of the anticipated elation of winning a lottery. This anticipated elation may be even stronger when the chance of winning is small because winning an unlikely gain makes people extraordinarily happy, especially when they can vividly picture their winning. This anticipated elation makes people attached to the outcome so as to overweight the chance that a rare event would happen. Our studies confirm the importance of emotion in risky decision making and suggest strategies to reduce biases. If you find yourself getting emotional when you think about a risky decision, it is wise to use delegation and ask a trustworthy agent to make decisions for you. If delegation is not available, you still have the self-distancing strategy that can improve the quality of your decision – simply consider yourself as an outsider trying to make a decision for someone else. Sometimes a simple strategy like this can have a great effect.
• Normative conflict in strategic interactions: Given the widespread need for coordination in the modern world full of uncertainty, it is of great importance to recognize and understand this conflict in order to find ways to resolve it. We use lab experiments to study how individuals use normative principles and precedents to resolve strategic uncertainties and normative conflicts when there are payoff inequalities in repeated interactions. Different normative principles can arise in the interactions, and individuals with successful coordination are more likely to use the same normative principle in the future.
• Decision making under ambiguity: when there aren´t enough information for decision maker to assign a unique subjective probability distribution to uncertain events, preferences cannot be represented by the classical subjective expected utility theory. We study how to represent decision maker’s preferences by utility models in this environment. The problem involves studying decision making under ambiguity in both static and dynamic setting. In static setting, decision maker makes a one shot choice being faced with ambiguity. In dynamic setting, choices are made in different periods, and decision maker needs to update her preferences and beliefs dynamically.
• Intertemporal decision making under uncertainty: when decision maker makes choices over consumption plans or invests over multiple periods facing uncertain future environments, the classical model used to represent decision maker’s preferences is discounted expected utility model. We study how decision maker’s attitude toward uncertainty in each period can be affected by the decisions from the past periods. The past decisions influence decision maker’s current choice through emotions such as disappointment and elation. Decision maker may also derive utility from anticipation or recall. These factors may influence decision maker’s risk/ambiguity attitude in each period, making the attitudes history dependent in intertemporal choice.
If you are interested in knowing more about our research in this field, contact Associate Professor Sibilla Di Guida.