Suppose you wanted to find out someone’s subjective belief in the likelihood of a given event. Your first instinct might be to offer them betting odds on the event. If they would accept odds of 2:1 but no lower, you might conclude that they believe the event to have a 33.3% chance of occurring.
This would be correct if the person you’re offering the bet to is risk neutral. But if they’re risk averse, they might actually believe the event has a 50% likelihood of occurring, and they just require more favourable odds to compensate them for accepting risk.
Luckily, there’s a better way to elicit subjective probabilities. It comes from Karni (2009), a short paper published in Econometrica.* (more…)
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