Market Innovation and Entrepreneurship: A Knightian View

Abstract

Stimulated by Frank Knight’s book, Risk, Uncertainty and Profit, I present a theory of innovation based on what I term Knightian decision theory. The theory includes a concept of uncertainty aversion, a behavioral property manifested by reluctance to undertake new unevaluatable risks. The aversion is compounded when people are obliged to cooperate in undertaking risks. The theory leads to the conclusion that innovation in business is the natural domain of individual investors with unusually low levels of uncertainty aversion. In addition, it should be difficult to innovate new markets for insurance of unevaluatable risks, for the success of a new market requires that many people overcome their aversion to uncertainty and enter the market.