Answered: Janet’s broad attitude to risk (risk…

Microeconomic Theory

12th Edition

ISBN:9781337517942

Author:NICHOLSON

Publisher:NICHOLSON

Chapter7: Uncertainty

Section: Chapter Questions

Problem 7.2P

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Janet’s broad attitude to risk (risk averse, risk neutral, or risk loving) is independent of her wealth. She has initial wealth w and is offered the opportunity to buy a lottery ticket. If she buys it, her final wealth will be either w+4 or w−2, each equally likely. She is indifferent between buying the ticket and not buying it.

Janet offers her friend Sam (who has identical preferences and initial wealth) the following proposition: They buy the ticket together, and share the cost and proceeds equally.

Sam has another idea: They buy two tickets (that have independent outcomes) and share the costs and proceeds equally.

Suppose that Janet's and Sam's utility of income is given by u(x)=ln⁡x and the initIal wealth of each one of them is equal to w=4. Recall the proposal made by Janet, and the solution put forward by Sam.

Which of the following statements is true?

a. Both agents prefer Sam's solutions to Janet's solution.

b. Both agents prefer Janet's solutions to Sam's solution.

c. The agents are indifferent between Janet's solutions to Sam's solution.

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