Making Knightian uncertainty operational

Tell us how "Knightian uncertainty can be made operational"…

Knightian uncertainty is not usually important when you are playing the first twenty (or is it these days thirty?) moves of a Ruy Lopez in grandmaster chess.  When Knightian uncertainty matters, we should observe market participants investing more in opportunities for serendipitous discovery.  This might, for instance, mean buying new books on a lark, traveling randomly around the world in search of insight, and in general mimicking wunderkind Ben Casnocha.

Do you think Knightian uncertainty is important in labor markets?  If so, go out and hire some people on the basis of rumors.

Norton A. Myers’s new and excellent Happy Accidents: Serendipity in Modern Medical Breakthroughs: When Scientists Find What They’re NOT Looking For is one of the best books I know of on science.

#18 in a series of 50.


My question is whether,with Knightian uncertainty, you should pursue some sort of minimax or precautionary principle? I don't believe these principles make much logical sense but they seem to approximate how we do actually behave in these situations. I wonder if there is some normative basis for them.

Use financial options or insurance products to hedge against volatility
Use (a portfolio of) real option(s) to hedge against Knightian uncertainty

Actually, Keynes's treatment of uncertainty, which overlaps Knight's in
many ways, and appeared in print in his Treatise on Probability in the
same year as Knight's, 1921, is more sophisticated, with greater
gradations, and hence greater likelihood of being quantified part of
the time. Keynes allows for four degrees of it from classical known
probability to pure, unquantifiable uncertainty, whereas Knight only
had two categories, quantifiable risk and unquantifiable uncertainty.

Regarding Casnocha, he seems to imply that tenure is a problem for
universities, and that they should think about getting rid of it in
the future, although he does not come right out and say that. This,
of course, presumes that university administrators are actually competent
to guide university research, which I would question.

I am amazed that nobody is aware that attempts at succesful formal representations of Knightian unceratinty have existed for a while. Schmeidler developed the axiomatic basis for maximizing Choquet utlity, which is the appropriate utility to be used when probabiblities are non-additive (which in turn is tied to the idea of imperfect knowledge of state space.) Subsequently, Mukerji have shown that maximizing Choquet utility is the "procedurally" rational thing to do when faced with "uncertainty." Ghirardato has some further developments on that. There are many interesting implications: (1) why people generally do no prefer indexed wage or debt contracts (2) too much or too little trading.

I have posted a different response, here.

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