Risk aversion and indifference curve, Microeconomics

Assignment Help:

Risk Aversion and Income

- Variability in potential payoffs increases risk premium.

- Example:

  • A job has a .5% probability of paying $40,000 (utility of 20) and a 5 percent chance of paying 0 (utility of 0).

* The expected income is $20,000, but expected utility falls to 10.

Expected utility = .5u($) + .5u($40,000)

         = 0 + .5(20) = 10

* The certain income of $20,000 has a utility of 16.

*  If person is required to take the new position, the utility of them will fall by 6.

* The risk premium is $10,000 (that is they would be willing to give up $10,000 of the $20,000 and have same E(u) as the risky job.

*  Thus, it can be said that greater the variability, greater the risk premium.

*  Indifference Curve

- Combinations of the3 expected income & standard deviation of income which yield the same utility.

1808_risk aversion.png

2239_risk aversion1.png


Related Discussions:- Risk aversion and indifference curve

Vulnerability in international relations, Vulnerability in international re...

Vulnerability in international relations: Dominance, dependence and vulnerability in international relations.A greater volume of Ghana’s exports comes from primary commodities

Utility and consumer surplus, Jeremy is an economics student who loves hamb...

Jeremy is an economics student who loves hamburgers. He could eat any number of them for dinner, but he gets a really bad stomach ache after eating a certain amount. In fact, his u

Wealth tax, Wealth Tax: A tax in that owners of specific forms of wealth (l...

Wealth Tax: A tax in that owners of specific forms of wealth (likereal estate, financial wealth, or inheritances) should pay a specified proportion of that wealth to government, us

Barometric forecasting, It is also known a sleadig indicators forecasting N...

It is also known a sleadig indicators forecasting National Bureau of Economic Research of U. S.A has identified three types of indicate Leading indicators coincidental indicators a

Discuss the language and methods of mathematics, Discuss about the language...

Discuss about the language and methods of mathematics in modern economics. Language and Methods of Mathematics: This section reviews some fundamental mathematics results

Define Amagat law of partial volume, Define Amagat law of partial volume, ...

Define Amagat law of partial volume, Amagat law of partial volume The total volume of a mixture of non reacting gases at constant temperature & pressure is equal to sum of indiv

Exchange rate, if a country is managing its exchange rate what will do to c...

if a country is managing its exchange rate what will do to counteract the effect of stock market bubble in this country? explain what central bank will do and show in supply and de

Define contribution pensions, Q. Define Contribution Pensions? Defined ...

Q. Define Contribution Pensions? Defined Contribution Pensions: A pension plan which makes no specified promise about level of pension paid out after retirement. In its place,

Define direct marketing, Direct Marketing This is a marketing tool des...

Direct Marketing This is a marketing tool designed to elicit instant action from the customer through direct contact.

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd