This preview shows page 1. Sign up to view the full content.
Unformatted text preview: u represents % . For all ( 0, 1 ) and for all x , y Z , we have by risk aversion [ x + ( 1 ) y ] % x ( 1 ) y and thus u ( x + ( 1 ) y ) u ( x ) + ( 1 ) u ( y ) , that is, u is concave. Certainty Equivalence and the Risk Premium Let E ( p ) be the expectation of the lottery p , that is, E ( p ) = z Z p ( z ) z . Given a preference relation % over the space L ( Z ) , the certainty equiv-alence of a lottery p , CE ( p ) , is a prize satisfying [ CE ( p ) ] p . (To justify the existence of CE ( p ) we need to assume that % is monotonic and continuous in the sense that if p q , the inequality is maintained if we change both lotteries probabilities and prizes a little bit). The...
View Full Document
This note was uploaded on 12/29/2011 for the course ECO 443 taught by Professor Aswa during the Fall '10 term at SUNY Stony Brook.
- Fall '10