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Heads or Tails: How Human Behavior Influences Risky Economic Decisions

Gabelli100 | Mar 18, 2021 |

In the St. Petersburg paradox, a theoretical lottery game, every time a coin toss lands heads up, the money doubles until the coin lands on its tail. The expected win for repeated play would be an infinite amount of money, however, according to mathematician George Szpiro, Ph.D., many people would refuse the endless sum purely out of disbelief.

In a recent Gabelli School Centennial Virtual Speaker Series presentation sponsored by the Gabelli Center for Global Security Analysis, the Museum of American Finance, and the CFA Society, Szpiro investigated how rationality and human behavior shape individual economic decisions. To illustrate the point, Szpiro shared examples of paradoxes and theories posed by mathematicians throughout history from his book, Risky Decisions: How Mathematical Paradoxes and Other Conundrums Have Shaped Economic Science.

Using prospect theory, Szpiro described how people make financial decisions based on an associated negative impact rather than absolute outcomes. For example, flying is statistically the safest way to travel, but those who are afraid to fly associate it with flight disasters. Regardless of one’s economic acumen or mathematical skills, he posed, people will make the best economic decisions based on prior knowledge and proclivity.

“Prospect theory describes best how people actually make decisions,” he said. “Be aware of your biases; everybody has them and as long as you are aware of them, you will make the best decisions under the circumstances.”

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