Risks and uncertainties

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Risk and uncertainties reflect unpredictable changes of environment and behaviours of people[1].

These concepts are important for business activity because running your own business is directly related to taking and calculating risk and uncertainty[2].

Risk - the probability that business entity make a loss as a result of the economic decision being taken[3].

Uncertainty includes changes that are difficult to calculate and events that we can not estimate due to little information[4].

Difference between the concepts of risk and uncertainty

Despite the explicit difference between risk and uncertainty, they are usually used to determine the same thing[5].

Uncertainty is an immeasurable phenomenon. The measurable part is called risk[6][7].

"Risk refers to situations in which probabilities targets can be identified for possible results. In other words it can be quantified. Instead, uncertainty refers to situations or events about which there is sufficient information to identify objective probabilities.

The key - element in making the distinction between risk and uncertainty is probability. Probability refers to a particular phenomenon or event to occur under well - defined conditions.

Depending on the probability can be distinguished three categories of situations can be distinguished:

The state of absolute certainty implies an accurate knowledge of influent economic phenomena and factors, a strict control of the time of occurrence of effects obtained which in terms of mathematical probability theory is a probability of occurrence and development of that economic phenomenon equal to 1.

The state of uncertainty means a set of conditions and factors, unidentified and unpredictable in terms of occurrence and evolution; even if they are identified and predicted they are highly unstable, their probability being 0.

The state of riskis when, with an economic probability greater than 0 but less than 1, it may be determined the occurrnece and evolution of economic phenomena, the influence of factors and their possible effects" that is how Ms. Toma describes in the article (Toma S. V. and others, (2012)[8].

Elements related to the concept of risk

Mr. Strand notices in his article "Basic textbooks of risk analysis will often explain the concept as containing two dimensions. The first dimension is the degree of possibility that an event will take place, and the second is the consequences of this event." (Strand R.,2009)[9].

In each company, the pursuit of risk reduction and control should be one of the main action[10].

The types of risk control are[11]:

  • Avoidance the risk - is the basic way to limit potential losses caused by natural disasters.
  • Risk reduction - is taken to try to reduce the frequency and size of potential damage.

The company should always collect information that will help identify and develop an optimal risk management process[12].

Risk management process consists of four consecutive stages[13]:

Risks and its sources[14]:

Elements related to the concept of uncertainty

Types of uncertainty

"I know what I do not know" - probability distribution is theoretically possible, but in practice we do not have the right data, the correct mathematical model or sufficient computing power.

"I do not know what I do not know" - in this case talking about probability is pointless[15].

Uncertainty is included[16]:

  • uncertainty of the state (misunderstanding of events and directions of development of the environment, no possibility of changing them)
  • uncertainty of the effect (no possibility to predict external influence on the organization)
  • uncertainty of reaction (shows the types of responses to the dynamics of the environment)

Level of uncertainty

  • Lack of uncertainty (certainty) occurs when the results can be predictable with high accuracy, for example: natural sciences, laws of physics, mathematics.
  • Level 1 (objective uncertainty) occurs when the results are predictable and the probability known, e.g. gambling.
  • Level 2 (subjective uncertainty), as a result we can predict, but unknown probability, e.g. random accidents.
  • Level 3 probability and results are unknown, e.g.: scientific research, genetic engineering[17].

Uncertainty to appear in many areas, for example in insurance, philosophy, physics, statistics, economics, finance or IT[18].

Conclusions

Risk is something variable, is rather a process than the state of the environment[19].

As the authors suggest "A series of studies provides support for this principle in decision under both risk and uncertainty and shows that people are less sensitive to uncertainty than to risk" (Toma S. V. and others, (2012)[20].

Risk and uncertainty are multidimensional concepts that are difficult to clearly identify, therefore one universal and unambiguous definition can not be used for them[21].

Examples of Risks and uncertainties

  • Economic Risk: Refers to changes in the economic environment that could negatively impact a company’s ability to generate profits. Examples include currency fluctuations, inflation, recession, and increased competition.
  • Political Risk: Refers to the risk of changes in a country’s political environment that could have a negative impact on a business. Examples include changes in government policies, laws and regulations, and political instability.
  • Legal Risk: The risk of being found liable for violating a law or regulation. Examples of legal risks include antitrust violations, copyright infringement, and discrimination.
  • Operational Risk: The risk of loss resulting from inadequate or failed internal processes, people, and systems. Examples include data breaches, cyber attacks, and employee misconduct.
  • Reputational Risk: The risk of damage to a company’s reputation due to negative public opinion. Examples include negative publicity, customer complaints, and social media criticism.

Advantages of Risks and uncertainties

Risks and uncertainties can bring both advantages and disadvantages. Some of the advantages of risks and uncertainties include:

  • The ability to identify and anticipate potential problems and develop strategies to mitigate risks. With this information, businesses can be better prepared to handle a variety of scenarios.
  • The ability to develop innovative solutions to difficult problems. By embracing risk and uncertainty, businesses can be more open to exploring new ideas, leading to more creative solutions.
  • Encourages businesses to be agile and adaptive. By being open to change, businesses can be better equipped to embrace the ever-evolving market environment.
  • Provides opportunities to capitalize on changes in the market. By understanding and embracing risk, businesses can better identify and take advantage of market opportunities.
  • It encourages businesses to take calculated risks. By understanding the risks and rewards associated with certain decisions, businesses can make better decisions about how to invest their resources.

Limitations of Risks and uncertainties

Risks and uncertainties are inherent in any type of decision-making process, and there are several limitations to be aware of when trying to identify and manage them. These include:

  • Inadequate data: The data collected may not be comprehensive enough to accurately assess the potential risks and uncertainties.
  • Unforeseen consequences: Even with the best data, it is impossible to predict all of the potential outcomes of a decision, and certain unforeseen consequences may arise.
  • Human biases: People can be biased in their risk assessments and may not accurately identify the true risks and uncertainties.
  • Limited resources: There may be limited resources available to properly manage and mitigate the risks and uncertainties.
  • Lack of experience: If the decision-makers lack the necessary experience to accurately identify and assess the risks and uncertainties, they may make inaccurate decisions.
  • Unclear goals: If the goals of the decision-making process are not clearly defined, it may be more difficult to identify the risks and uncertainties associated with the decision.

Other approaches related to Risks and uncertainties

Risk and uncertainty management is a critical component of successful decision-making. There are a number of other approaches related to managing risks and uncertainties which can be used as part of a comprehensive strategy. These include:

  • Risk assessment - This involves identifying, analyzing, and evaluating potential risks and their potential impacts. This process should be conducted on a regular basis to ensure that current and future risks are identified and managed appropriately.
  • Risk mitigation - This involves taking steps to reduce the likelihood or impact of risks. These can include implementing preventive measures, such as training, or developing contingency plans.
  • Risk transfer - This involves transferring the responsibility for managing a risk to another party, such as an insurance company.
  • Risk acceptance - This involves making a conscious decision to accept a level of risk and deciding not to take action to reduce or transfer it.
  • Risk monitoring - This involves regularly monitoring the status of risks and their potential impacts. This allows for timely action to be taken when necessary.

In summary, there are a number of other approaches related to managing risks and uncertainties which can be used as part of a comprehensive strategy. These include risk assessment, mitigation, transfer, acceptance, and monitoring. Each approach should be used in conjunction with the others to create an effective risk management system.


Risks and uncertainties — recommended articles
Indirect loss — Accident management — Reduction of uncertainty — Strategic foresight — Business risk management — SWOT analysis — Perception of risk — Dynamic risk — Uncertainty and risk

References

Footnotes

  1. ↑ Mishra,P.K.(2011)
  2. ↑ Toma S. V. and others (2012)
  3. ↑ Strand R., Oughton D. and others(2009)
  4. ↑ Mishra,P.K.(2011)
  5. ↑ Toma S. V. and others (2012)
  6. ↑ Mishra,P.K.(2011)
  7. ↑ Strand R., Oughton D. and others(2009)
  8. ↑ Toma S. V. and others (2012)
  9. ↑ Strand R., Oughton D. and others(2009)
  10. ↑ Strand R., Oughton D. and others(2009)
  11. ↑ Strand R., Oughton D. and others(2009)
  12. ↑ Strand R., Oughton D. and others(2009)
  13. ↑ Strand R., Oughton D. and others(2009)
  14. ↑ Mishra,P.K.(2011)
  15. ↑ Mishra,P.K.(2011)
  16. ↑ Mishra,P.K.(2011)
  17. ↑ Mishra,P.K.(2011)
  18. ↑ Strand R., Oughton D. and others(2009)
  19. ↑ Strand R., Oughton D. and others(2009)
  20. ↑ Toma S. V. and others (2012)
  21. ↑ Strand R., Oughton D. and others(2009)

Author: Daria Ziętara

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