The Effects of Risk and Uncertainty

So far, our praxeological analysis has assumed that investors and other individuals can foresee the results of their actions, so that their utility ex post need not be distinguished from their utility ex ante (p. 4.4:32). This assumption, of course, is not realistic in general, and it is relaxed beginning in this subsection.

As we shall show, the law of diminishing marginal utility (pp. 4.4:29-31) implies that any risk associated with an action tends to diminish the utility ex ante of that action, even when that risk includes a rough balance of "upside" and "downside" elements. That law tells us that as a person's supply of any good (including money) increases, each succeeding unit becomes less useful and less valuable. As the supply decreases, the marginal unit becomes more valuable. Let us examine how that law applies to gambling and other kinds of risky situations.  Next page

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