Reference no: EM133038846

Choice I:

A: Getting $1 Billion for sure

B: An 89% chance of getting $1 Billion,a 10% chance of getting $3 Billion, and a 1% chance of getting $0

Choice II:

C: An 11% chance of getting $1 Billion, and an 89% chance of getting $0

D: A 10% chance of getting $3 Billion, and a 90% chance of getting $0

1. How do you find the expected value of choices A and B?
2. Using the expected utility theory, how do you determine what rational people will prefer in choice I?

Are the below statements true or false, explain your answer.

1. Expected utility theory requires that if you prefer A over B in Choice I, then to be consistent you should also prefer C over D in choice II.
2. Prospect theory predicts that people tend to prefer A in choice I and D in choice II.
3. Prospect theory predicts that the additional 1% chance of getting $0 in options B and D (compared to A and C, respectively) will matter exactly the same amount based on the probability weighting function.