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John proposes the following bet to Ivy: She flips a coin and if head comes up,...

John proposes the following bet to Ivy: She flips a coin and if head comes up, she gives John 2 dollars. If tails comes up John gives Ivy double that amount (4 dollars). If Ivy is maximizing her expected utility she should accept this bet. True, false or uncertain?

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Answer #1

The probability of winning $4 for Ivy is 1/2 = 0.5 = 50℅ and probability of loosing $2 is 0.5.

According to expected utility theory, the expected value from accepting the bet is- Outcome x probability of the event occurring.

Therefore, expected value = 0.5 ( 4 )+0.5( - 2)= $(2-1)=$1

For a person who wants to maximize utility, if expected value of accepting the bet is less than the cost of accepting the bet, then the person shouldn't accept the bet. As here, cost $2 is greater than expected value $1, Therefore, Ivy shouldn't accept the bet.

Answer- False

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