7.5 Decision making 281
considering they are quantifiable, which
makes the task more objective than it would
be otherwise. All we are asking is: Which
option, Old Car or New(er) Car, makes the
better economic sense? We can answer it by
setting the cost of each option against the
likelihood of a favourable outcome (or the risk
of an unfavourable one) and we can express
all this in numerical terms. We are defining a
favourable outcome as three years of trouble-
free use, and an unfavourable outcome as
anything less than this. The statistical
evidence suggests that there is (up to) a 0.4
probability that the older car will fail within
three years, with a worst-case scenario of
losing all of the $1200. The evidence also
suggests that there is a 0.1 probability that
the newer car will fail, with a worst-case
loss of $4500.
Mathematically this can be expressed as
follows:
Older: $1200 × 0.4 = $480
Newer: $4500 × 0.1 = $450
Difference: $30
In other words, if I multiply the value (i.e. the
cost) of an unfavourable outcome by the
chance of its happening, this tells me there are
slightly better grounds (statistically) for buying
the newer, more expensive car. However, the
difference is so small that it does not provide a
powerful reason for deciding one way or the
other. The conclusion we would draw from this
exercise is that there is very little to choose
between the two options when viewed in these
purely economic terms. This is not so
surprising, when we stop to think about it,
because by and large you get what you pay for,
and the marketplace reflects this: the reduced
reliability of an older car is matched by its lower
price; conversely the higher price of a newer
model is reflected in the likelihood of greater
reliability.
The above example is very simple, but it
provides us with a model of the way in which
consequences bear on decisions. If we wantedDecision time
If you were asked at this point which car is the
better buy, you would be right to think it was a
silly question. Obviously the newer car is the
better buy. As that rather over-used saying
goes, it is a ‘no-brainer’ – meaning you don’t
need any intelligence to work it out. But the
question ‘Which would you buy?’ is a
different one and without more information
it is unanswerable. Yes, we can estimate from
the statistics that the likelihood of getting
three years of reliable use from the newer car
is 30 percentage points higher than for the
older model. But we have no way of placing a
measurable value on this. Value was the
second of the two criteria for assessing
consequences. The most obvious missing
information is the cost of the two cars
respectively, because it is that which is at stake
if the one we buy proves faulty. Nor is it just
the cost itself that is relevant, but the cost to
the buyer. If the buyer has lots of money, the
relative value is less than for someone on
modest income who has to watch what they
spend, and will feel the effects of an
unfavourable outcome more acutely. It is for
this reason that ‘importance’ is often a more
appropriate term to use than ‘value’ or ‘cost’.
So, let’s place a value on each car. Let’s say
that the older car is priced at $1200, and the
newer one at $4500. We can now pose the
question again, only this time with something
more concrete to go on. Which of the cars, Old
Car or New Car, would you opt for – and why?
Activity
Pause and discuss this question. In purely
practical and economic terms, which car is
the better buy for someone to whom financial
considerations matter significantly?Commentary and continuation
Not all values and probabilities are
quantifiable ones. But in the example we are