Economic Analysis ECON 100A
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This 3 page Class Notes was uploaded by Dr. Janiya Bernier on Thursday October 22, 2015. The Class Notes belongs to ECON 100A at University of California - Berkeley taught by Staff in Fall. Since its upload, it has received 10 views. For similar materials see /class/226717/econ-100a-university-of-california-berkeley in Economcs at University of California - Berkeley.
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Date Created: 10/22/15
Section Notes 9 Econ 100A Spring 06 1 SECTION NOTES 9 Covering material from Lecture on February 9 CLASS OUTLINE 1 Expected Value vs Expected Utility 2 Preferences for Risk 1 Expected Value vs Expected Utility As we may know probability is the likelihood of an event occuring But how is it used to nd an expected value Expected value for a discrete set of events is given by EX EX PrX i This is essentially the weighted average of values of X where the weight is the probability of an even occuring Besides nding the expected value we could nd expectations over other values such as utilities Expected utility is given by EUX ZUX PrX 139 Problem Suppose your utility is given by UI For the following outcomes and probabilities of a lottery nd the expected value and the expected utility 9lt 100 pay off with probability 1 9lt 25 pay off with probability 4 9lt 16 pay off with probability 5 Section Notes 9 Econ 100A Spring 06 2 2 Preferences for Risk To see how preferences for risk relate expected value versus expected utility7 let s look at the graphs for being risk neutral7 risk loving7 and risk averse What are some ways risk can be decreased ie diversi cation insurance Risk Premium Amount willing to pay before indifferent between guaranteed point on utility curve and expected value ie horizontal distance between EU and EX Value of Information Difference between the expected value of a choice when there is complete infor mation and the expected value when information is incomplete Section Notes 9 Econ 100A Spring 06 3 Problem PampR7 Chapter 57 Exercise 6 Suppose that Natasha s utility function is given by 141 V107 where I representes annual income in thousands of dollars a Is Natasha risk loving7 risk neutral7 or risk averse b Suppose that Natasha is currently earning an income of 40000 I 40 and can earn that income next year with certainty She is offered a chance to take a new job that offers a 06 probability of earning 44000 and a 4 probability of earning 33000 Should she take the new job C In b7 would Natasha be willing to buy insurance to protect agains the variable income associated with the new job If so7 how much would she be willing to pay for that insurance Hint what is the risk premium
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