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lec15slides - Time and Uncertainty 1st $ 1 Time and...

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1 Time and Uncertainty $$ 1 st 2 Time and Uncertainty We don’t know the future. We must make decisions whose outcome depends on unknown future events. We can take actions that reduce or increase the uncertainty.
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3 Two concepts: • Von Neumann-Morgenstern utility • Expectations over future events 4 Von Neumann-Morgenstern Utility Our well-being increases with our buying power (income, wealth, or net assets.) “Utility” is a function of buying power: y = income, wealth or net worth U(y) = utility from y
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5 Utility Y Utility rises with y. 6 Utility Y Extra income has large effect when poor. Extra income
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7 Utility Y Extra income has large effect when poor. Extra utility 8 Utility Y Extra income has smaller effect when rich. Extra income
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