The Economics Book

195

See also: Economic man 52–53 ■ Risk and uncertainty 162–63 ■ Paradoxes in decision making 248–49 ■ Behavioral
economics 266–69

Maurice Allais challenged this
theory from what he referred to as
the American School of economics.
He pointed out that expected
utility theory is based on an
assumption, known as the
independence axiom, that says
people will dispassionately look at
the likelihood of outcomes and the
utility they will gain from each one.
In particular, they will view each
choice independently, ignoring any
factors that are common to each
option. Allais said that this was
rarely, if ever, true. His contention
became known as the Allais paradox.

Irrational choice
We cannot directly see people’s
thought processes when they choose,
but we can observe the choices they
make and see if these are consistent
with rationality and the independence
axiom. Imagine that you are given a
choice between an apple and an
orange, and you choose the apple.
Now imagine that you are offered the
choice of an apple, an orange, and a
peach. The independence axiom
assumes that you might choose the

apple again, or the peach, but you

would not choose the orange—

because the addition of the peach

cannot change your preference for

apples over oranges.

The violations of independence

that Allais detected, however, take

place in situations of uncertainty.

Suppose you had a choice between

two “lotteries,” each of which has

several possible outcomes with

particular probabilities. The first

lottery gives you a 50 percent

chance of an apple and a 50 percent

chance of a peach. The second

lottery gives you a 50 percent

chance of an orange and a 50

percent chance of a peach. Because

you prefer apples to oranges, you

should choose the first lottery:

under the independence axiom,

the addition to each lottery of a

peach—making the peach equally

probable as an outcome in both

choices—should make no difference

to the choice of apple over orange.

But in practice, very often it does.

In experiments using more

complex forms of this kind of

choice, people frequently violate

POST-WAR ECONOMICS

the independence axiom. This

conflicts with the standard

economic idea that humans always

act rationally. For some reason the

presence of other choices in a set of

options seems to matter to people—

it makes a difference. The discovery

of these kinds of behaviors has

spawned the new field of behavioral

economics (pp.266–69), which

attempts to devise more

psychologically realistic models

of decision making. ■

Maurice Allais Maurice Allais was born in Paris,

France, in 1911. His father died

during World War I, and this

affected Allais deeply. He excelled

at school and studied mathematics

at the elite École Polytechnique,

graduating first in his class in

1933. He then served in the
      military before working first as an
      engineer, then as departmental
      manager for the École Nationale
      Supérieure des Mines. During this
      time he also published his first
      pieces on economics. In 1948, the
      École Nationale allowed him to
      focus entirely on teaching and
      writing, and he became their

professor of economic analysis.

A polymath, Allais also made

contributions to physics. In

1978, he was the first economist

to be awarded a gold medal by

France’s National Centre of

Scientific Research, and in 1988,

he won the Nobel Prize for

economics. He died in 2010.

Key works

1943 In Search of an Economic

Discipline

1947 Economy and Interest

1953 The Behavior of Rational

Man Confronting Risk

Whatever their attraction

might be, none of the

fundamental postulates

forumulated by the American

School can withstand analysis.

Maurice Allais