Puzzles and Paradoxes: The Consistent Role of Ambiguity Aversion

Abstract

Historical puzzles and paradoxes have been accepted by practitioners and researchers as evidence of irrationality on the part of the individual. However, when classifying these anomalies into similar structural ambiguities we note the consistency of individuals' distaste for ambiguity. Asymmetrical payout structures offer compensation for accepting some level of ambiguity. When viewed through the lens of ambiguity aversion, the individual's actions are quite rational.

Keywords: Ambiguity Aversion, St. Petersburg Paradox, Ellsberg Paradox, Allais Paradox, Equity Premium Puzzle, Lotteries, Insurance

JEL Classification: D1