Asked by Yamile Espinosa on Apr 26, 2024
Verified
Pete's expected utility function is pc1/21 (1 p) c1/22, where p is the probability that he consumes c1 and 1 p is the probability that he consumes c2.Pete is offered a choice between getting a sure payment of $Z or a lottery in which he receives $1,600 with probability .80 or $14,400 with probability .20.Pete will choose the sure payment if
A) Z 3,136 and the lottery if Z 3,136.
B) Z 8,768 and the lottery if Z 8,768.
C) Z 14,400 and the lottery if Z 14,400.
D) Z 2,368 and the lottery if Z 2,368.
E) Z 4,160 and the lottery if Z 4,160.
Expected Utility Function
A concept in economics that predicts the utility or satisfaction a rational individual expects to receive from different outcomes, used in decision making under uncertainty.
Sure Payment
A guaranteed payment, often referring to financial transactions where the payer is obligated to pay a certain amount.
Lottery
A form of gambling which involves drawing lots for a prize, often administered by state or federal governments.
- Acquire knowledge on the concept of expected utility and its role in the process of decision-making in uncertain environments.
- Determine the forecasted utility for certain scenarios and select the option that enhances utility to its maximum.
Verified Answer
DP
destiny paganApr 27, 2024
Final Answer :
A
Explanation :
The expected value of the lottery is calculated as (0.80 * $1,600) + (0.20 * $14,400) = $1,280 + $2,880 = $3,160. Pete will choose the sure payment if it is greater than the expected value of the lottery, which is $3,160, and the lottery if the sure payment is less than $3,160.
Learning Objectives
- Acquire knowledge on the concept of expected utility and its role in the process of decision-making in uncertain environments.
- Determine the forecasted utility for certain scenarios and select the option that enhances utility to its maximum.