ADDITIONAL NOTES Decision making Strategies 1) Satisficing

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In decision making, satisficing explains the tendency to select the first option that meets a given need or select the option that seems to address most needs rather than the optimal solution. Eg. A task is to sew a patch onto a pair of jeans. The best needle to do the threading is a 4 inch long needle with a 3 millimeter eye. This needle is hidden in a haystack along with 1000 other needles varying in size from 1 inch to 6 inches. Satisficing claims that the first needle that can sew on the patch is the one that should be used. Spending time searching for that one specific needle in the haystack is a waste of energy and resources. Satisficing also occurs in consensus building when the group looks towards a solution everyone can agree on even if it may not be the best. Eg. A group spends hours projecting the next fiscal year's budget. After hours of debating they eventually reach a consensus, only to have one person speak up and ask if the projections are correct. When the group becomes upset at the question, it is not because this person is wrong to ask, but rather because they have come up with a solution that works. The projection may not be what will actually come, but the majority agrees on one number and thus the projection is good enough to close the book on the budget. In many circumstances, the individual may be uncertain about what constitutes a satisfactory outcome. For example, an individual who only seeks a satisfactory retirement income may not know what level of wealth is requiredgiven uncertainty about future pricesto ensure a satisfactory income. In this case, the individual can only evaluate outcomes on the basis of their probability of being satisfactory. If the individual chooses that outcome which has the maximum chance of being satisfactory, then this individual's behavior is theoretically indistinguishable from that of an optimizing individual under certain condition. Satisficing is often a good option when making a decision, but it can also be detrimental if used the wrong way. For example, when considering a medical issue such as a diagnosis, satisficing is not the best decision making strategy to use. On the other hand, when choosing an outfit or an option from a menu, it can be helpful. When there is an unlimited amount of information available and it is necessary to eliminate options, satisficing is beneficial because it helps the person making the decision effectively and efficiently reach a conclusion. 2) Optimisation An optimal decision is a decision such that no other available decision options will lead to a better outcome. It is an important concept in decision theory. In order to compare the different decision outcomes, one commonly assigns a relative utility to each of them. If there is

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uncertainty in what the outcome will be, the optimal decision maximizes the expected (average) utility. Sometimes, the equivalent problem of minimizing loss is considered, particularly in financial situations, where the utility is defined as economic gain. "Utility" is only an arbitrary term for quantifying the desirability of a particular decision outcome and not necessarily related to "usefulness." For example, it may well be the optimal decision for someone to buy a sports car rather than a station wagon, if the outcome in terms of another criterion (e.g., effect on personal image) is more desirable, even given the higher cost and lack of versatility of the sports car. In case the decision outcome is subject to uncertainty, an optimal decision is maximizing the expected utility. The problem of finding the optimal decision is a mathematical optimization problem. In practice, few people verify that their decisions are optimal, but instead use more intuitive approaches to make decisions that are "good enough." A more formal approach may be used when the decision is important enough to motivate the time it takes to analyze it, or when it is too complex to solve with more simple intuitive approaches, such as with a large number of available decision options and a complex decision outcome relationship. Optimizing vs. satisficing Herbert A. Simon coined the phrase "bounded rationality" to express the idea that human decision making is limited by available information, available time, and the informationprocessing ability of the mind. Simon also defined two cognitive styles: maximizers try to make an optimal decision, whereas satisficers simply try to find a solution that is "good enough". Maximizers tend to take longer making decisions due to the need to maximize performance across all variables and make tradeoffs carefully; they also tend to more often regret their decisions (perhaps because they are more able than satisficers to recognise that a decision turned out to be sub-optimal). 3) Maximax The decision maker selects the decision that will result in the maximum of the maximum payoffs. The maximax criterion is very optimistic. The decision maker assumes that the most favorable state of nature for each decision alternative will occur. Thus, for example, using this criterion, the investor would optimistically assume that good economic conditions will prevail in the future. The maximax criterion is applied in Table 1. The decision maker first selects the maximum payoff for each decision. Notice that all three maximum payoffs occur under good economic
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conditions. Of the three maximum payoffs-$50,000, $100,000, and $30,000-the maximum is $100,000; thus, the corresponding decision is to purchase the office building. e.g.

Table 1: Payoff table illustrating a maximax decision Decision (Purchase) Apartment building Office building Warehouse State of nature Good economic conditions Poor economic conditions $50,000 $30,000 100,000 -40,000 30,000 10,000

Although the decision to purchase an office building will result in the largest payoff ($100,000), such a decision completely ignores the possibility of a potential loss of $40,000. The decision maker who uses the maximax criterion assumes a very optimistic future with respect to the state of nature.

4) Maximin In contrast with the maximax criterion, which is very optimistic, the maximin criterion is pessimistic. With the maximin criterion, the decision maker selects the decision that will reflect the maximum of the minimum payoffs. For each decision alternative, the decision maker assumes that the minimum payoff will occur. Of these minimum payoffs, the maximum is selected. e.g. Table 2: Payoff table illustrating a maximin decision Decision(purchase) Apartment Office building Warehouse State of nature Good economic condition Poor economic conditions $50,000 $30,000 100,000 -40,000 30,000 10,000

The minimum payoffs for our example are $30,000, -$40,000 and $10,000. The maximum of these three payoffs is $30,000; thus, the decision arrived at by using the maximin criterion would be to purchase the apartment building.

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This decision is relatively conservative because the alternatives considered include only the worst outcomes that could occur. The decision to purchase the office building as determined by the maximax criterion includes the possibility of a large loss (-$40,000). The worst that can occur from the decision to purchase the apartment building, however, is a gain of $30,000. On the other hand, the largest possible gain from purchasing the apartment building is much less than that of purchasing the office building (i.e., $50,000 vs. $100,000). If table 2 contained costs instead of profits as the payoffs, the conservative approach would be to select the maximum cost for each decision. Then the decision that resulted in the minimum of these costs would be selected.