Adam Smith's Original Application of an Interval Estimate Approach to Probability in the Wealth of Nations (1776)

Abstract

Adam Smith was the first economist or mathematician in history to present an explicit, detailed, interval estimate approach to probability in an application involving the economic analysis of occupational choice.

In general, the expected value and/or expected utility (subjective expected utility) rules can’t be applied in the real world of decision making because there is missing evidence that does not allow the decision maker to use point probabilities.

Smith presented an Ellsberg like choice between two problems-the risky shoemaker occupation problem and the uncertain, ambiguous lawyer occupation problem.

Smith also recognized the nonlinear, subproportional nature of the trade off between the outcome and the probability in the Expected Value (Expected utility) model.

Keywords: interval estimate, Ellsberg Urn problem, indeterminate probabilities, uncertainty, ambiguity, decision making

JEL Classification: B12, B20, B22