The Economics of Uncertainty

Professor Fullenkamp begins with black swan events; occurrences that are considered as improbable as black swans; a notable recent example is the 2008 financial crisis.; examining the nature of uncertainty and the best strategy for dealing with it.

Turning an uncertain situation into a risky situation; risk is probability and knowledge is power; this may sound counterintuitive, but is a surprisingly effective approach, pioneered by economist Frank Knight; where it applies in economic settings.

In dealing with uncertainty, it makes sense to have an arsenal of different strategies; five techniques for risk management that can be used in every sphere of life; producing information, diversifying, sharing risk, avoiding risk and absorbing risk.

Examining two different types of probability; frequency-based probabilities rely on many examples of a phenomenon; subjective probabilities call on personal experience and judgment; thinking critically about these two approaches and using them.

Handling uncertainty by studying two ways that people reach decisions; system 1 excels at making snap judgments; system 2 is analytical and more time-consuming; the strengths and weaknesses of each; the problem of estimating probabilities.

Converting uncertainty to risk; probing how probabilities can gauge rewards and risks; testing risk-assessing tools used in finance, including expected value, variance, standard deviation, coefficient of variation, Sharpe ratio, covariance and beta.