Attitude towards risk - consumer choice involving risk, Microeconomics

Attitude towards Risk:

Let's assume the following: The utility function  

•  has the single argument "wealth" measured in monetary units, 

•  is strictly increasing, and 

•  is continuous with continuous first order and second order derivatives.   

The expected value of the lottery (P, W1, W2), where the Wi are the different wealth levels, is the sum of the outcomes, each multiplied by its probability of occurrence. Thus,     

E [W] = PW1 + (1-P)W2 

A person is risk neutral relative to a lottery if its utility of the expected value equals the expected utility of the lottery, i.e., if  

U [PW1 + (1-P)W2] = PU (W1) + (1-P)U(W2) ---------------- (a) 

Such a person is only interested in expected values and is totally oblivious to risk. If she is risk neutral towards all lotteries, equation (a) implies that she has a linear utility function of the form U = α + βW with β>0. The utility analysis developed for certain situations is applicable for risk-neutral persons facing uncertainty. All that is necessary is to replace certain values with expected values. A person is a risk averter relative to a lottery if the utility of its expected value is greater than the expected value of its utility:  

U [PW1 + (1-P)W2] > PU (W1) + (1-P)U(W2) -------------- (b) 

Such a person prefers a certain outcome to an uncertain one with the same expected value. If equation (b) holds for all 01 and W2 within the domain of the utility function, the utility function is strictly concave over its domain since equation (b) is identical to the definition of strict concavity.   

 

Posted Date: 10/26/2012 4:12:32 AM | Location : United States







Related Discussions:- Attitude towards risk - consumer choice involving risk, Assignment Help, Ask Question on Attitude towards risk - consumer choice involving risk, Get Answer, Expert's Help, Attitude towards risk - consumer choice involving risk Discussions

Write discussion on Attitude towards risk - consumer choice involving risk
Your posts are moderated
Related Questions
Please provide detailed answers, showing all your work, to all five sections in problem 15.9 in the Nicholson and Snyder book. This is an individual take home task due at 11:59pm o

sources of oligopory

Ask questi‘Social welfare functions embody a normative conception of the relative importance of equity and efficiency’. With the aid of diagrams, illustrate and explain this propos

What is the distinguishes a progressive income tax, from a proportional income tax, or a regressive income tax? A proportional income tax takes the similar percentage of a pe

At what point is the Fed likely to raise interest rates for the first time? How large are the first couple of hikes likely to be? (hints: conditional on unemployment or gdp growth

This is a very common methods of forecasting demand. Under this methods a relationship is established between quantity demanded( dependent variable) and independent variables such

THERE IS PRESSURE ON THE CENTRAL BANK TO INCREASE MONEY SUPPLY WHAT WOULD BE THE EFFECT ON THE MACROECONOMIC VARIABLE

implications of varios market structure for price determination

Sally recently finished her full time training and received certification as a nurses aid at the end of august.

marginal utility is applied on money or not