The homework is aimed at getting you familiar with the model of expected utility and how risk preference is embedded in the utility function. It offers a prelude to what we will be doing next.

The homework is due on Wednesday 9/25 at 11 PM.

The homework is aimed at getting you familiar with the model of expected utility and how risk preference is embedded in the utility function. It offers a prelude to what we will be doing next.

The homework is due on Wednesday 9/25 at 11 PM.

The homework is due on Wednesday 9/25 at 11 PM.

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Can anyone explain how to do the very last problem. I have already correctly found Y1 and Y2, if the formula for E(u(y)) is the same as the formula for E(u(x)), then I know I have to find the utilities of Y1 and Y2 first. Then I can use Y1 and Y2 along with my probabilities to solve for E(u(y)). The formula will be u(Y1)*p1+u(Y2)* (1-p1) Is this correct?

ReplyDeleteu(Y1)=Y^(alpha)

That sounds right. Give it a try.

ReplyDeleteI did, I keep getting a large number.

DeleteHere's what I have u(Y1) =B108*F21....

Wow, I just figured it out literally, just now. It was a typo I was using (*) instead of (^). Ugh I guess I had been looking at it for so long that I overlooked it. Thanks, I have the code now.

I am having trouble with the excel homework due 10/1

ReplyDelete1) finding the slope of the fair insurance line (I am using -p/(1-p)...p is 6.7% probability of loss)

2) expected utility no insurance available

3) the uncertainty equivalent of the original lottery, the amount of money if had for certain that would give the same utility (I don't know what this is asking)

4) Finding the risk premium

Thanks!

@ William Baumol

DeleteDid you figure out the expected utility no insurance available? I'm having trouble with that too. I know the formula is u(X1)*p1+u(X2)* (1-p1), but what is my X2 here? And what does no insurance have to do with this formula. I'm not sure how that effects anything.

X2 is the initial wealth, W. X1 is the initial wealth less the loss, W - L.

DeleteI figured out this question.

DeleteYou want to look at the probability of good * u(something good) +probability bad* u(something bad)

in this case good is initial wealth and bad is initial wealth-potential loss

A fair insurance line is given by the equation Pi = F + p*I. But note that in the graph the premium is on the vertical axis. So if you solve this equation for I you get I = - (F/p) + Pi/p. So in this case the slope is 1/p.

ReplyDeleteFor the other two questions I refer you to the previous homework. Those calculations were done there.

By the way, the homework is due tomorrow night not tonight.

DeleteI still can't figure out how to find the uncertainty equivalent.

DeleteIs there a specific formula to use?

You did this type of calculation on the previous homework. I suggest you review that.

DeleteI am having difficulty with one question on the Bargaining excel homework.

ReplyDeleteThe question is in the first part and says: By our assumption that the 2 parties have equal bargaining power we conclude they will split the gains equally from trade. What is the price that accomplishes this?

I tried to divide the gains by 2 but that didn't work.

Thanks!

If you divided the gains by 2 and added it to the cost or subtracted it from the value, that should do it. Alternatively, you can simply think of the midpoint between cost and value.

Delete