Decision-making involves weighing alternatives and choosing between them. People don’t always make rational decisions. In the 1950s, economist Herbert Simon proposed that people’s capacity to process and evaluate multiple alternatives limits their ability to make rational decisions. Because it is difficult to simultaneously evaluate all possible options, people tend to focus on only a few aspects of the available options. This can result in less than optimal decisions. Two types of decisions are decisions about preferences and risky decisions. People generally use a variety of different approaches when making these types of decisions. Decisions about Preferences
Some decisions require people to make choices about what they would prefer. Example: Josh needs to choose which of two armchairs to buy. He must decide which one he likes better. People may use additive or elimination strategies when making decisions about preferences. Additive Strategies
When using an additive strategy, a person lists the attributes of each element of the decision, weights them according to importance, adds them up, and determines which one is more appealing based on the result. Example: To decide which armchair to buy, Josh may list the features he considers important in an armchair. For example, he might list attractiveness, comfort, and price. Then, for each armchair, he rates each feature on a scale from +5 to–5. He also weights each feature according to its importance. For instance, if he considers comfort to be twice as important as price, he multiplies the ranking for comfort by 2. Josh then adds up the ratings for each armchair. The chair with the highest ranking wins. Elimination Strategies
Another strategy for making decisions about preferences is called elimination by aspects, which involves eliminating alternatives based on whether they do or do not possess aspects or attributes the decision maker has deemed necessary or desirable. People often use this type of strategy when a large number of options and features have to be evaluated. Example: When using this strategy to choose his armchair, Josh sets a minimum criterion for each feature he thinks is important. For example, minimum criteria for attractiveness, comfort, and price of an armchair might be blue color, soft fabric, and under $300, respectively. He then compares the two armchairs according to these minimum criteria, starting with the most important criterion. An armchair that doesn’t meet a criterion gets eliminated, and the remaining one wins. Risky Decisions
When making choices about preferences, people select between known features of alternatives. In other types of decisions, however, they have to decide between unknown outcomes. This type of decision-making involves taking risks. Example: If Eric is trying to decide whether to buy a $5 raffle ticket, a risk is involved, since he has only a 1 in 1000 chance of winning a $500 prize. People make risky decisions by judging the probability of outcomes. Strategies people use to make risky decisions include calculating expected value, estimating subjective utility, and using heuristics. Expected Value
One strategy for making a risky decision is to calculate the expected value of the decision. People calculate the expected value by adding the value of a win times the probability of a win to the value of a loss times the probability of a loss. Example: For Eric, the value of a win is +$495 ($500 prize –$5 cost), and the value of a loss is –$5. The probability of winning is 1/1000 and the probability of losing is 999/1000. Therefore the expected value is –3.5. That means Eric can expect to lose $3.50 for every raffle ticket he buys. Subjective Utility
Even when decisions have negative expected values, people still make such decisions. Some researchers believe that this occurs because people make some decisions by estimating subjective utility, or the...