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Risk Preferences

expected utility - sum of utilities of all possible incomes weighted by probability  

  • E(u) = (probabilty1)(utility1) + (probability2)(utility2)...
  • different expected values/risks >> depends on individual
    • find utility/happiness obtained by risk
  • risk averse - person always prefers given income compared to risky income
    • risk >> diminishing marginal utility of income
    • 1st earned dollar not as attractive as 2nd
  • risk-loving - prefers uncertain income to certain
  • no preference between certain/uncertain income >> risk neutral (usually never possible)
    • has constant marginal utility of income

 

  • risk averse
  • risk loving
  • risk neutral

risk premium - max money person willing to give up to avoid risk  

  • variability increase >> risk premium increase
  • difference in value between certain value and expected value at the same utility

 

  • marginal utility
  • expected value curve
  • expected value
  • certain value
  • risk premium
Subject: 
Economics
Subject X2: 
Economics

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