Presbyter takes Knight

Michael R. Powers

Journal of Risk Finance, 2010, vol. 11, issue 1, 5-8

Abstract: Purpose - The purpose of this editorial is to explore the usefulness of distinguishing between “risk” and “Knightian uncertainty.” Design/methodology/approach - The paper presents a representative, insurance‐based model of Knightian uncertainty arising out of potential major structural changes (without historical precedent) in liability claim settlements. It then considers whether or not formal statistical forecasting and decision making are possible in this context. Findings - For real‐world settings, it is found that a Bayesian statistical framework is sufficiently comprehensive to permit forecasting and decision making in the presence of Knightian uncertainty. The paper then shows that the Bayesian approach fails only if the sample space underlying the potential structural change is truly nonmeasurable. Originality/value - It is argued that, under a Bayesian worldview, the distinction between risk and uncertainty is necessary only in highly abstract epistemological modeling.

Keywords: Risk analysis; Uncertainty management; Bayesian statistical decision theory (search for similar items in EconPapers)
Date: 2010
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Persistent link: https://EconPapers.repec.org/RePEc:eme:jrfpps:15265941011012651

DOI: 10.1108/15265941011012651

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