Friday, May 28, 2021

Behaviors that look like risk aversion but aren't

Technically, risk aversion is the phenomenon of valuing risky propositions at a value lower than their expected value. But I think in ordinary use of the phrase “risk averse”, we mean something different.

I consider myself a pretty risk-averse individual. Not infrequently, when I consider the possibility of myself or a child engaging in some activity, I spend a significant amount of time looking up the data on the risks of that activity, and comparing those to risks of other activities. And I spend time worrying about bad things that might happen. Thus, even though deaths from brain-eating amoebae are very rare (one per 1.2 years in Texas), if I were to swim with head submersion in a Texas lake or river, I know I would worry for the next week and a half (especially if I had anything approximating the symptoms of an amoeba infection, say a crick in the neck) in a way that would make the swim not have been worth it.

But while both my risk-investigation and risk-worrying make me “risk averse” in the ordinary sense, neither makes me clearly risk averse in the technical sense.

For risk-investigation behavior to count as risk averse in the technical sense, it would have to be that the expected value of the results of the investigation is lower than the value of the time I am willing to invest in the investigation. Whether this is true is a difficult to say. Sometimes at least the investigation concerns an activity that, if engaged in, would likely be engaged in repeatedly. In such a case, it might well be worth-while to devote a fair amount of time to investigating the risk-profile of the activity. If my child were to play soccer, they would likely be playing soccer for multiple years, each time undertaking the concussion risks from heading the ball (I would not allow a child of mine to play soccer unless I knew they were willing to consistently stand up to their coach and refuse to head the ball). The cost of spending an hour or two looking at sports-medicine research does not seem to be excessive as compared to the expected value of making a less-informed versus a more-informed decision. Moreover, the investigation itself is often interesting—I learn things that are interesting to know that offset much if not all the cost of the investigation. Finally, if the investigation leads to the conclusion that the risks of an activity are low, my future worries will be less.

Risk-worrying, on the other hand, does not even prima facie classify one as risk averse in the technical sense. Positive and negative emotional outcomes of a decision are simply a part of the utilities. Suppose that I am willing to pay $10 in order to avoid a situation where I have a 0.5 chance of losing $1000 and a 0.5 chance of gaining $1000, because if I don’t pay, I will worry that I will lose $1000. In that case, paying the $10 has an expected disvalue of $10, while not paying has an expected disvalue of $0 plus the disvalue of my negative emotional state. That emotional state might well be worth paying $10 to avoid, but if so, there is nothing risk averse in the technical sense about this decision.

So, some of the behaviors that intuitively would classify one as risk averse do not in fact show one to be risk averse in the technical sense. It would be interesting to see if there is a correlation between those behaviors, however, and risk aversion in the technical sense. There might be.

A related interesting empirical question is how to tell technical risk aversive behavior apart from simply taking worry-like states into account in one’s expected utility calculations. I think it can be done. For instance, if my main reason for avoiding risks is the disvalue of worrying, then I will be less willing to take risks that are resolved in the distant future than to take risks that are resolved in the near future. For with the distant risks, I have more time to worry, while the near risks will be resolved quickly, so the total amount of worry should be rather less. Interestingly, most people aren’t like that: they are more risk-avoidant in the case of immediately resolving risks than in the case of risks with temporally distant resolution. Hence, their risk avoidance is not based on simply rationally weighing the disvalue of worrying.

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