Prospect theory can predict that a single person will both buy actuariallyfair insurance and purchase actuarially fair lottery tickets. For all parts ignore thepossibility that u(x) or v(x) is linear. For parts (b) and (c) assume K&T’s typicalshape for v(x) and π(p).You can consider a choice between (–$10, 0.1, $0, 0.9) and (–$1, 1) for theinsurance problem and a choice between ($0, 0.9; $10, 0.1) and ($1, 1) for thelottery problem.a. Why won’t expected utility theory make both predictions about a singleperson with a concave utility function?b. Briefly comment on the contribution of v(x) for these predictions.c. Briefly comment on the contribution of π(p) for these predictions.
Prospect theory can predict that a single person will both buy actuariallyfair insurance and purchase actuarially fair lottery tickets. For all parts ignore thepossibility that u(x) or v(x) is…
