Lecture08 - Main topics 1 2 3 4 5 6 Consumption under risk Decision-making under uncertainty Gambling and avoiding risk Demand for insurance Value

Info iconThis preview shows pages 1–10. Sign up to view the full content.

View Full Document Right Arrow Icon
Main topics 1. Consumption under risk 2. Decision-making under uncertainty 3. Gambling and avoiding risk 4. Demand for insurance 5. Value of information 6. Behavioral Economics
Background image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Probability distribution relates probability of occurrence to each possible outcome first of two following examples is less certain fig. 1
Background image of page 2
Calculations Expected values Variance Concepts/Terms Fair bet Risk averse vs. risk neutral vs. risk loving Value of information You should know…
Background image of page 3

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Fair bet wager with an expected value of zero flip a coin for a dollar: [½ M (1)] + [½ M (-1)] = 0
Background image of page 4
Gambling Why would a risk-averse person gamble when the bet is unfair? enjoys the game makes a mistake: can’t calculate odds correctly has Friedman-Savage utility fig. 5
Background image of page 5

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Avoiding risk just say no: don’t participate in optional risky activities obtain information diversify risk pooling diversification can eliminate risk if two events are perfectly negatively correlated
Background image of page 6
LOTTERIES A “lottery” is the prospect with known (monetary) payoffs, each one with a known probability of occurring Can represent a lottery by a list of payoffs and their corresponding probabilities * payoffs given by: X n , n = 1,…,N * probabilities given by: pr n , n = 1,…,N where 0 < pr n < 1 such that: pr 1 + … + pr N = 1
Background image of page 7

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
A REAL LOTTERY CALIFORNIA MEGA MILLIONS LOTTERY “Match” Prize Odds / Probabilities Prob*Prize -------------------------------------------------------------------------------------------------------------------------------------------- 5+Mega Ball Grand Prize 1 in 175,711,536 (e.g., $10M) 0.0000000057 $0.0 5 $175,000 1 in 3,904,701 0.0000002561 $0.04 4+Mega Ball $5,000 1 in 689,065 0.0000014512 $0.01 1 $150 1 in 15,313 0.0000653040 $0.01 3+Mega Ball $150 1 in 13,781 0.0000725637 $0.01 2+Mega Ball $10 1 in 844 0.0011848341 $0.01 3 $7 1 in 306 0.0032679739 $0.02 1+Mega Ball $3 1 in 141 0.0070921986 $0.02 Mega Ball $2 1 in 75 0.0133333333 $0.03 Nothing $0 97.5 in 100 0.9749820794 $0.00 Expected Prize $0.21 Note: payoffs are made at one time or over many years. Source: www.calottery.com Expected payoff = Expected Prize – Cost of ticket = $0.21 - $1.00 = - $0.79
Background image of page 8
A LITTLE STATISTICS RANDOM VARIABLE - Takes on values X n with probabilities pr n - Frequency distribution, e.g., bell-shaped grade distribution Probability 1.0 .90 .80 .70 .60 .50 .40 .30 .20 .10 0
Background image of page 9

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Image of page 10
This is the end of the preview. Sign up to access the rest of the document.

This note was uploaded on 08/01/2008 for the course ECON 100A taught by Professor Woroch during the Spring '08 term at University of California, Berkeley.

Page1 / 43

Lecture08 - Main topics 1 2 3 4 5 6 Consumption under risk Decision-making under uncertainty Gambling and avoiding risk Demand for insurance Value

This preview shows document pages 1 - 10. Sign up to view the full document.

View Full Document Right Arrow Icon
Ask a homework question - tutors are online