Decision-Making Under Uncertainty

Decision-making under uncertainty is a specialized area of economic analysis that explores how economic agents - such as consumers, entrepreneurs, and others - make intertemporal choices when they face limited knowledge about future events. In situations of uncertainty, agents are unable to assign probabilities to future outcomes due to a lack of sufficient information or an incomplete understanding of the world. Nevertheless, economic theory typically assumes that individuals still make rational choices based on the information available to them and their past experience, assigning subjective probabilities to each possible outcome. In essence, economic models tend to treat decision-making as occurring under conditions of risk, rather than true uncertainty (difference between uncertainty and risk).

Example. An entrepreneur is weighing whether to invest in a new product. They don't know how the market will respond, nor can they reliably predict how technology will evolve - this is a clear case of uncertainty. Still, economic theory assumes that the entrepreneur will assign subjective probabilities to the possible outcomes (e.g., a 60% chance of success and a 40% chance of failure), effectively reframing uncertainty as risk and making a decision accordingly.