Asked by Nichole Stone on May 08, 2024
Verified
Oliver takes his wealth of $1,000 to a casino.He can bet as much as he likes on the toss of a coin but the "house" takes a cut.If Oliver bets $x on heads, then if heads comes up, he gets $.8x and, if tails comes up, he pays $x.Similarly if he bets $x on tails and if tails comes up, he wins $.8x and, if heads comes up, he pays $x.Draw a graph with dollars contingent on heads and dollars contingent on tails on the two axes.Show Oliver's budget constraint.Oliver is an expected utility maximizer with the utility function U(h, t) 1/2h2 1/2t2, where h is his wealth if heads comes up and t is his wealth if tails comes up.Draw the highest indifference curve that Oliver can reach with his budget.What bets if any does he make?
Expected Utility Maximizer
An economic concept referring to individuals or entities that make choices under uncertainty to maximize their expected level of satisfaction or utility.
Utility Function
Depicts how different combinations of goods or services generate levels of happiness or utility for a person or household.
Probability
A measure of the likelihood of a specific event or outcome occurring, expressed as a number between 0 and 1.
- Ascertain the anticipated utility and employ it for financial decision-making purposes.
- Gain insight into the representation of risk preferences through utility functions and their effect on the choices made in gambling.
Verified Answer
AS
Aaliyah SaldivarMay 10, 2024
Final Answer :
His budget curve kinks at (1000, 1000); it meets the axes at (1800, 0)and (0, 1800).Indifference curves are quarter circles.Oliver will gamble his entire wealth, either betting it all on heads or all on tails.
Learning Objectives
- Ascertain the anticipated utility and employ it for financial decision-making purposes.
- Gain insight into the representation of risk preferences through utility functions and their effect on the choices made in gambling.