---
title: "Decision theory"
chunk: 2/2
source: "https://en.wikipedia.org/wiki/Decision_theory"
category: "reference"
tags: "science, encyclopedia"
date_saved: "2026-05-05T03:56:30.080120+00:00"
instance: "kb-cron"
---

Intertemporal choice is concerned with the kind of choice where different actions lead to outcomes that are realized at different stages over time. It is also described as cost-benefit decision making since it involves the choices between rewards that vary according to magnitude and time of arrival. If someone received a windfall of several thousand dollars, they could spend it on an expensive holiday, giving them immediate pleasure, or they could invest it in a pension scheme, giving them an income at some time in the future. What is the optimal thing to do? The answer depends partly on factors such as the expected rates of interest and inflation, the person's life expectancy, and their confidence in the pensions industry. However even with all those factors taken into account, human behavior again deviates greatly from the predictions of prescriptive decision theory, leading to alternative models in which, for example, objective interest rates are replaced by subjective discount rates.

=== Interaction of decision makers ===

Some decisions are difficult because of the need to take into account how other people in the situation will respond to the decision that is taken. The analysis of such social decisions is often treated under decision theory, though it involves mathematical methods. In the emerging field of socio-cognitive engineering, the research is especially focused on the different types of distributed decision-making in human organizations, in normal and abnormal/emergency/crisis situations.

=== Complex decisions ===
Other areas of decision theory are concerned with decisions that are difficult simply because of their complexity, or the complexity of the organization that has to make them. Individuals making decisions are limited in resources (i.e. time and intelligence) and are therefore boundedly rational; the issue is thus, more than the deviation between real and optimal behavior, the difficulty of determining the optimal behavior in the first place. Decisions are also affected by whether options are framed together or separately; this is known as the distinction bias.

== Heuristics ==

Heuristics are procedures for making a decision without working out the consequences of every option. Heuristics decrease the amount of evaluative thinking required for decisions, focusing on some aspects of the decision while ignoring others. While quicker than step-by-step processing, heuristic thinking is also more likely to involve fallacies or inaccuracies.
One example of a common and erroneous thought process that arises through heuristic thinking is the gambler's fallacy — believing that an isolated random event is affected by previous isolated random events. For example, if flips of a fair coin give repeated tails, the coin still has the same probability (i.e., 0.5) of tails in future turns, though intuitively it might seems that heads becomes more likely. In the long run, heads and tails should occur equally often; people commit the gambler's fallacy when they use this heuristic to predict that a result of heads is "due" after a run of tails. Another example is that decision-makers may be biased towards preferring moderate alternatives to extreme ones. The compromise effect operates under a mindset that the most moderate option carries the most benefit. In an incomplete information scenario, as in most daily decisions, the moderate option will look more appealing than either extreme, independent of the context, based only on the fact that it has characteristics that can be found at either extreme.

== Alternatives ==

A highly controversial issue is whether one can replace the use of probability in decision theory with something else.

=== Probability theory ===
Advocates for the use of probability theory point to:

the work of Richard Threlkeld Cox for justification of the probability axioms,
the Dutch book paradoxes of Bruno de Finetti as illustrative of the theoretical difficulties that can arise from departures from the probability axioms, and
the complete class theorems, which show that all admissible decision rules are equivalent to the Bayesian decision rule for some utility function and some prior distribution (or for the limit of a sequence of prior distributions). Thus, for every decision rule, either the rule may be reformulated as a Bayesian procedure (or a limit of a sequence of such), or there is a rule that is sometimes better and never worse.

=== Alternatives to probability theory ===
The proponents of fuzzy logic, possibility theory, Dempster–Shafer theory, and info-gap decision theory maintain that probability is only one of many alternatives and point to many examples where non-standard alternatives have been implemented with apparent success. Notably, probabilistic decision theory can sometimes be sensitive to assumptions about the probabilities of various events, whereas non-probabilistic rules, such as minimax, are robust in that they do not make such assumptions.

=== Ludic fallacy ===

A general criticism of decision theory based on a fixed universe of possibilities is that it considers the "known unknowns", not the "unknown unknowns": it focuses on expected variations, not on unforeseen events, which some argue have outsized impact and must be considered – significant events may be "outside model". This line of argument, called the ludic fallacy, is that there are inevitable imperfections in modeling the real world by particular models, and that unquestioning reliance on models blinds one to their limits.

== See also ==

== References ==

== Further reading ==