1987 Volume 23 Issue 1 Pages 54-59
The purpose of this paper is to find a descriptive model to account for various paradoxes which violate the von Neumann-Morgenstern expected utility theory. Extending the prospect theory of Kahneman-Tversky we propose a measurable value function under risk which is a two-variable-function of consequence and probability. This function is described either as the product form of a weighting function for probability and a conditional value function or as the product form of a value function and a conditional weighting function for probability. In this model the conditional value function describes the strength-of-preference for outcome under the given conditional level of probability, and the conditional weighting function decribes the strength-of-preference for probability under the given conditional level of outcome.
The descriptive model proposed in this paper could properly. account for Allais paradox (certainty effect), reference effect, and the phenomena of insurance and gambling. If we eliminated the risky situations from our model, we could obtain the conventional model of measurable value function under certainty as a special case.
