Question
In: Economics
A risk averse individual is offered a choice between getting $400 for sure and entering a...
A risk averse individual is offered a choice between getting $400 for sure and entering a gamble that promises a gain of $1000 with probability 0.25 and a gain of $300 with probability 0.75. Given this situation, he or she will
- definitely take the gamble
- definitely not take the gamble
- definitely take the gamble if his or her income is high enough
- take an action that cannot be determined without specifying the individual’s utility function
Solutions
Expert Solution
Ans.
Correct Option is - D.
Guaratee money =$400
Expected Value of Lottery = 1000 x 0.25 + 300 x 0.75
= 250 + 225 = $475
Risk Premium = $475 - $400 = $75
We see that expected return is $75 more than the sure money of $400 , This return might or might not be accepted by the person , because to know how much of a risk averse person is he ,which can be measured by the utility function of this individual.
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Rahul Sunny answered 2 years agoRelated Solutions
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