If you throw a die, you will get a number between 1 and 6 with equal probability. What is the expected value?
In Figure E.12.1, we have drawn the amount of utility a certain individual gets from different levels of wealth.
a) Does this person have diminishing, increasing, or constant marginal utility of wealth?
b) Is she risk-averse, risk-neutral, or a risk-lover? Why?
Suppose she has 500,000 and is invited to participating in a lottery that with a probability of 50% increases her wealth to 1,000,000 and with equal probability causes her to lose everything.
c) What is the expected value of the lottery?
d) What level of utility does she achieve if she does not participate in the lottery? Indicate that point in the graph.
e) What is her expected utility if she does participate in the lottery? Indicate that point as well.
f) Indicate in Figure E.12.1, what represents the risk premium