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Prospect Theory in Practice

04/05/2020

Economic theory used to suggest that individuals would always act rationally, seeking to maximize their utility (ie enjoyment) through their decision making. All that was needed to ensure the best possible outcome was data. Daniel Kahneman and Amos Tversky challenge that conventional wisdom by developing Prospect Theory, an idea that recognizes that actions can be influenced by emotions as well as evidence. The central proposition of Prospect Theory is that people do not value losses and gains equally. Rather people are loss averse. Kahneman suggested that faced with a 50:50 game of chance, the average person will only willingly play the game if the possibility of losing £10 is counterbalanced by the chance of winning at least £20. Fear of loss motivates people about twice as much as greed.

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