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Unformatted text preview: Economics 101 Problem Set 4 Due Tuesday, February 22, 2011 George J. Mailath Please indicate your recitation time/number and recitation instructor on your answer. 1. The certainty equivalent of a lottery (gamble) X is the amount of money for which the individual (with utility for money u and wealth w ) is indifferent between the lottery X and the certain amount c ; that is, Eu ( w + X ) = u ( w + c ) . (The certainty equivalent may be negative.) Suppose Edward has utility function over money u ( w ) = √ w , and initial wealth w = $4. Consider the gamble X given by X = $12 , with probabilty 1 3 , − $4 , with probabilty 2 3 . (a) What is the expected value of the gamble X ? (b) What is Edward’s expected utility if he accepts the gamble X ? (c) What is Edward’s certainty equivalent of the above gamble? (d) Discuss the relationship between the expected value of the gam ble, Edward’s certainty equivalent of the gamble, and his atti tudes towards risk....
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This note was uploaded on 03/02/2011 for the course ECON 101 taught by Professor Dannicatambay during the Spring '08 term at UPenn.
 Spring '08
 DANNICATAMBAY
 Economics, Microeconomics

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