How much is his risk premium

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Reference no: EM133930935

Assignment:

Suppose a risk-averse person that maximizes expected utility is attending a game show. His utility function is U = (W) ½. In the middle of the show, he needs to take a guess at one question that has four answers. There is a probability P1 = 25% that he would guess it right. In this case, he will get W1 = $10,000. On the other hand, this also implies that he has the probability P2 = 75% of getting the answer incorrectly. In that case, he would get W2 = $3,600.

(1) How much is his risk premium? That is, how much is this person willing to let go to avoid the risk or uncertainty?

(2) If alternatively, he can get the offer of $5,000 to walk away without having to take a guess. Should he accept the offer of $5,000 or not? Justify your answer.

Reference no: EM133930935

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