ABSTRACT
This chapter explores some behavioural paradoxes that led to rethinking of standard approaches in the evolution of D. Kahneman and Amos Tversky’s prospect theory. Prospect theory is a framework which captures how people choose between different risky “prospects” – defined as sets of risky alternatives. Prospect theory can reconcile behavioural inconsistencies without abandoning rigorous analysis. A fundamental aspect of Kahneman and Tversky’s analysis of prospect theory is their critique of expected utility theory. Kahneman and Tversky provide a critique of L. J. Savage’s approach to analysing decisions between uncertain outcomes – the set of risky alternatives that Kahneman and Tversky call “prospects”. G. Loomes and R. Sugden formulate regret theory as a “simpler”, “more intuitive” alternative to Kahneman and Tversky’s prospect theory. In regret theory, there is one consequence for each state of the world whereas in prospect theory a number of different actions may correspond with each prospect.
