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ii
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Decision analysis consists of a prescriptive theory and associated models and tools that
aid individuals or groups confronted with complex decision problems in a wide vari-
ety of contexts. Decision analysis can offer workable solutions in domains such as the
environment, health and medicine, engineering, public policy, and business. This book
extends traditional textbook knowledge of decision analysis to today’s state of the art.
Part I covers the history and foundations of decision analysis. Part II discusses struc-
turing decision problems, including the development of objectives and their attributes,
and influence diagrams. Part III provides an overview of the elicitation and aggrega-
tion of probabilities and advances in model building with influence diagrams and belief
networks. Part IV discusses utility and risk preferences, practical value models, and
extensions of the subjective expected utility model. Part V consists of an overview of
advances in risk analysis. Part VI puts decision analysis in a behavioral and organiza-
tional context. Part VII presents a selection of major applications.
Ward Edwards (1927–2005) received his Ph.D. in psychology from Harvard Univer-
sity. He was the recipient of many awards, including the Frank P. Ramsey Medal from
the Decision Analysis Society of INFORMS in 1988 and the Distinguished Scientific
Contributions Award in Applied Psychology from the American Psychological Asso-
ciation in 1996. He wrote more than 100 journal articles and books, including Decision
Analysis and Behavioral Research and Utility Theories: Measurement and Applications.
Ralph F. Miles, Jr., received his Ph.D. in physics from the California Institute of Tech-
nology and is a consultant in risk and decision analysis. He was the editor and coauthor
of Systems Concepts and has written many articles. Until 1991, he worked as an engi-
neer, supervisor, and manager in the Jet Propulsion Laboratory (JPL) at the California
Institute of Technology. At JPL he was the Spacecraft System Engineer for two flights
to Mars. He was awarded the NASA Exceptional Service Medal for his contributions
to early mission design and spacecraft development in the role of Mission Analysis
and Engineering Manager for the Voyager Mission to Jupiter, Saturn, Uranus, and
Neptune.
i
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Edited by
Ward Edwards
University of Southern California
iii
CAMBRIDGE UNIVERSITY PRESS
Cambridge, New York, Melbourne, Madrid, Cape Town, Singapore, São Paulo
Cambridge University Press has no responsibility for the persistence or accuracy of urls
for external or third-party internet websites referred to in this publication, and does not
guarantee that any content on such websites is, or will remain, accurate or appropriate.
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Contents
1 Introduction 1
Ward Edwards, Ralph F. Miles, Jr., and Detlof von Winterfeldt
v
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vi Contents
Contents vii
Index 611
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viii
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List of Contributors
ix
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x List of Contributors
Preface
xi
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xii Preface
Our first task was to identify the advanced areas of decision analysis that
should be included in this book. We identified roughly twenty advanced topics
and developed an outline in the form of chapters. We also thought that some
chapters on the foundations and applications of decision analysis were important
and included several chapters on these topics. We then organized the chapters
into the seven principal parts of the book. Our second task was to find the most
knowledgeable authors for each of the chapters. Much to our delight, nearly every
author we approached agreed to participate, and all recognized the need for this
book. Almost everyone followed through and delivered their chapters by our
deadlines. With few exceptions, if these authors were asked if they were, along
with other talents, a decision analyst, the answer would firmly be “yes.” Finally,
Cambridge University Press agreed to publish this book.
Following are the seven principal parts. Part I covers the history and founda-
tions of decision analysis. Part II discusses structuring decision problems, including
the development of objectives and their attributes. Part III presents an overview
of probabilities and their elicitation and aggregation across experts, model build-
ing with belief nets and influence diagrams, and learning causal networks. Part IV
discusses utility and risk preferences, practical value models, and extensions of
the subjective expected utility model. Part V reviews engineering risk analysis
and risk analysis for health risk management. Part VI puts decision analysis in
a behavioral and organizational context, including behavioral research, decision
conferencing, resource allocation decisions, transitioning from decision analysis
to the decision organization, and negotiation analysis. Part VII presents case stud-
ies of applications based on the discussions of decision analysis throughout the
book.
Some subjects are conspicuous by their limited appearance. Social choice the-
ory has its own disciples and many excellent texts. It does appear in the context of
Part VI: “Decision Analysis in a Behavioral and Organizational Context.” Like-
wise for game theory, which provides theoretical support for Sebenius’ Chap-
ter 23,” Negotiation Analysis: Between Decisions and Games.” The reader will
find little on nonexpected utility theory, except as it has a bearing on decision
analysis – see Nau’s Chapter 14, “Extensions of the Subjective Expected Utility
Model.” We believe that the theoretical foundations for decision-making support
should come from expected utility theory, and that the role of nonexpected utility
theory lies in understanding the heuristics and biases that one encounters in deci-
sion making (Kahneman and Tversky 1982; Kahneman, Slovic, and Tversky 2000;
Gilovich, Griffin, and Kahneman 2002) and in understanding market behavior
(Glaser, Nöth, and Weber 2004). We had hoped for chapters on the growing use
of decision analysis in the medical field and on the subjects of options pricing and
decision analysis innovations in finance, but for various reasons these chapters
were not written.
Finally, decision analysis is an emerging discipline, having existed by name
only since 1966 (Howard 1966). As a result there remains much in contention
among decision analysts. Even the nomenclature is in debate. See the June 2004
(Vol. 1, No. 2) issue of Decision Analysis and the articles by Brown (2004), Clemen
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Preface xiii
and Kleinmuntz (2004), Howard (2004, 2004a), Keeney (2004), Kirkwood (2004),
and Smith (2004).
It is interesting to reflect on the views of the three founders of decision analysis,
as each provides a different perspective and emphasizes different aspects of deci-
sion analysis. Ronald Howard emphasizes the uncertainty part of decision ana-
lysis over the multiple objective part, criticizing some of the simpler applications
of multiattribute utility theory. Ward Edwards considered multiple objectives as
the key problems in decision analysis, while he worked on probability problems
in the 1960s and in the 1980s. Howard Raiffa, who pioneered multiattribute utility
theory with Ralph Keeney, also sees a major role of decision analysis as solving
multiattribute problems. In addition, Howard Raiffa always had a strong interest
in expanding decision analysis to bargaining and negotiation problems, and he
expressed regret that these aspects of decision analysis have not become more
prominent.
There are even different views about history. Ronald Howard traces the history
of subjective probability back to Laplace (1814), who introduced probability by
partitioning an event space into equally likely events. Many other decision analysts
and philosophers have criticized Laplace’s definition of probability and instead
see the foundations of subjective probability in the works of Bayes (1763), Ramsey
(1926), de Finetti (1931, 1937), and Savage (1954).
As editors, we believe that taking a position on these issues is not our role.
Thus all opinions of the authors are presented without restriction in this edited
book. We leave it to future generations to resolve these issues. Quoting Kirkwood
(2004), “In the long run, the answers to these questions will be determined by the
research, teaching, and practice of those who view themselves to be in the field.”
Ralph Miles wishes to thank Ron Howard and James Matheson for introducing
an engineer to decision analysis in a course taught for Caltech’s Jet Propulsion Lab-
oratory in the mid-1960s. Detlof von Winterfeldt wishes to thank Ralph Keeney
for many years of friendship and collaborations on decision analysis projects. He
also acknowledges the support of the Department of Homeland Security under
grants EMW-2004-GR-0112 (FEMA) and N0014-05-0630 (ONR). However,
any opinions, findings, and conclusions or recommendations in this document
are those of the authors and do not necessarily reflect the views of the United
States Department of Homeland Security. Unfortunately, Ward Edwards died on
February 1, 2005, before this book could be completed. We believe he would be
proud of the product that he initiated.
R. F. Miles, Jr.
D. v. W.
REFERENCES
Bayes, T. (1763). An essay toward solving a problem in the doctrine of chances. Philosoph-
ical Transactions of the Royal Society of London, 53, 370–418. Reprinted in 1958 with
biographical note by G. A. Barnard in Biometrika, 45, 293–315.
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xiv Preface
Bell, D. E., and Schleifer, A. Jr. (1995). Decision making under uncertainty. Boston, MA:
Harvard Business School.
Brown, R. (2004). Naming concepts worth naming. Decision Analysis, 1, 86–88.
Brown, R. (2005). Rational choice and judgment: Decision analysis for the decider. New
York: John Wiley.
Brown, R., Kahr, A., and Peterson, C. (1974). Decision analysis for the manager. New York:
Holt, Reinhart & Winston.
Clemen, R. T. (1996). Making hard decisions: An introduction to decision analysis (2nd ed.).
Belmont, CA: Duxbury Press.
Clemen, R. T., and Kleinmuntz, D. N. (2004). From the editors . . . . Decision Analysis, 1,
69–70.
de Finetti, B. (1931). Sul Significato Soggettivo della Probabilità. Fundamenta Mathemati-
cae, 17, 298–329. Translated in 1993 in P. Monari and D. Cocchi (Eds.), On the Subjective
Meaning of Probability. Probabilità e Induxione. Bologna: Clueb, pp. 291–321.
de Finetti, B. (1937). La prévision: Ses lois logiques, ses sources subjectives. Annales de
l’Institut Henri Poincaré, 7, 1–68. Translated in 1980 by H. E. Kyburg, Jr., Foresight. Its
logical laws, its subjective sources. In H. E. Kyburg, Jr. and H. E. Smokler (Eds.), Studies
in subjective probability (2nd ed.). Huntington, NY: Robert E. Krieger, pp. 53–118.
Gilovich, T., Griffin, D., and Kahneman, D. (Eds.). (2002). Heuristics and biases: The psy-
chology of intuitive judgment. Cambridge, UK: Cambridge University Press.
Glaser, M., Nöth, M., and Weber, M. (2004). Behavioral finance. In D. J. Koehler and
N. Harvey (Eds.), Blackwell handbook of judgment and decision making. Malden, MA:
Blackwell Publishing, pp. 527–546.
Howard, R. A. (1966). Decision analysis: Applied decision theory. In Proceedings of the
Fourth International Conference on Operational Research. New York: John Wiley, pp. 55–
71.
Howard, R. A. (2004). Speaking of decisions: Precise decision language. Decision Analysis,
1, 71–78.
Howard, R. A. (2004a). Response to comments on Howard. Decision Analysis, 1, 89–92.
Kahneman, D., and Tversky, A. (Eds.). (1982). Judgment under uncertainty: Heuristics and
biases. New York: Cambridge University Press.
Kahneman, D., Slovic, P., and Tversky, A. (Eds.). (2000). Choices, values, and frames.
Cambridge, UK: Cambridge University Press.
Keeney, R. L. (2004). Communicating about decisions. Decision Analysis, 1, 84–85.
Keeney, R. L., and Raiffa, H. (1976). Decisions with multiple objectives: Preferences and
value tradeoffs. New York: John Wiley.
Kirkwood, C. W. (1997). Strategic decision making: Multiobjective decision analysis with
spreadsheets. Belmont, CA: Duxbury Press.
Kirkwood, C. W. (2004). Prospects for a decision language. Decision Analysis, 1, 84–85.
Laplace (P. Simon, Marquis de Laplace). (1814). Essai philosophique sur les probabilities.
Translated by F. W. Truscott and F. L. Emory and reprinted in 1951 with an introductory
note by E. T. Bell as A philosophical essay on probabilities. New York: Dover Publications.
Raiffa, H. (1968). Decision analysis: Introductory lectures on choices under uncertainty.
Reading, MA: Addison-Wesley.
Ramsey, F. P. (1926). Truth and probability. In R. B. Braithwaite (Ed.). 1931. F. P. Ramsey,
The foundations of mathematics and other logical essays. London: Routledge and Kegan
Paul. Reprinted in 1980 in H. E. Kyburg, Jr., and H. E. Smokler, Studies in subjective prob-
ability (2nd ed.). New York: John Wiley. Reprinted in 1990 in D. H. Mellor, Philosophical
papers: F. P. Ramsey. Cambridge, UK: Cambridge University Press.
Savage, L. J. (1954). The foundations of statistics. New York: John Wiley. Revised 2nd ed.
in 1972. New York: Dover Publications.
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Preface xv
xvi
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1 Introduction
Ward Edwards, Ralph F. Miles, Jr., and Detlof von Winterfeldt
This first chapter of Advances in Decision Analysis presents definitions for decision
analysis that will be used consistently throughout this volume and provides a list
of references on the subject of decision analysis. As this is an edited volume on
“advances” in decision analysis, it is assumed that the reader is familiar with the
subject to the level presented in one or more of the introductory decision analysis
texts listed in the Preface.
This book attempts to maintain consistent distinctions among normative, pre-
scriptive, and descriptive decision theories—distinctions that we find inconsistent
in the literature. There is a rich and related literature on microeconomics, decision
theory, behavioral psychology, and management science, which is only touched
on in the following chapters.
Advances in Decision Analysis presents methodologies and applications of
decision analysis as derived from prescriptive decision theory. Each of the first six
parts of the book concentrates on different aspects of decision analysis. Part VII
is devoted to applications of decision analysis.
1
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Pragmatism
The pragmatism of Peirce (1878) and James (1907) was preceded by that of Kant
(1781), who, in his Critique of Pure Reason, makes two essential points: (1) The
justification for reason is ends for happiness and (2) it cannot be obtained a priori
from logic:
The sole business of reason is to bring about a union of all the ends, which are
aimed at by our inclinations, into one ultimate end – that of happiness – and
to show the agreement which should exist among the means of attaining that
end. In this sphere, accordingly, reason cannot present to us any other than
pragmatical laws of free action, for our guidance towards the aims set up by
the senses, and is incompetent to give us laws which are pure and determined
completely á priori.
In many ways, the behavioral movement of psychology and economics and
the philosophical inclinations of the founding fathers of decision analysis aligned
with this pragmatic philosophy. Many decision analysts today subscribe to the
pragmatic idea that beliefs, values, and actions should serve the pursuit of hap-
piness, whether this be wealth, health, quality of life, or an aggregation of those
attributes into a general notion of utility.
1. Transitivity.
2. The sure-thing principle.
3. Additivity of probability.
SURE-THING PRINCIPLE. The sure-thing principle states that the preference between
two gambles f and g, which have the same set of events and which have identical
consequences in one of the events (but not necessarily in others), should not
depend on what that identical consequence is. Much has been written about the
rationality status of this principle since it was introduced by Savage (1954). To us,
the convincing pragmatic argument is that violations of the sure-thing principle
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