Multi-attribute utility theory and FN-criteria

Authors: Bedford Tim

Management Science Working Paper No. 5 (2005)

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Abstract

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The paper deals with the justification of criteria for group risk using methods from utility theory. Group, or societal, risk is most often represented by FN curves, and regulation applied through the use of criterion lines. However, in order to compare different risk alternatives it is necessary to summarize the FN curve in a single number. A number of authors have used the concept of a ?disutilty criterion? using an expected value measure, which is claimed to be risk averse. We show how a multi-attribute approach can be used to reveal the implicit assumptions behind the formula. A discussion is given of the properties of the disutility function, in particular the fact that it is insensitive to epistemic uncertainty. A new approach is outlined that appears to have a number of attractive properties ? in particular it enables us to make risk attitude dependent on the total accidents, and takes account of the difference between epistemic uncertainty about the FN curve and a ?best estimate? approach. Although no closed formula is available, the method can be implemented in a spreadsheet.