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3-19

Mickey Lawson is considering investing some money that he inherited. The following
payoff table gives the profits that would be realized during the next year for each of the
three investment alternatives Mickey is considering:
a. What decision would maximize expected profile?
b. What is the maximum amount that should be paid for a perfect forecast of the
economy?
Decision
Alternative
Stock market
Bonds
CD's
Probability

State of Nature
Good
Bad
Economy Economy
80,000
(20,000)
30,000
20,000
23,000
23,000
0.5
0.5

3-23
Todays electronics specializes in manufacturing modern electronic components. It also
builds the equipment that produces the components. Phyllis Weinberger, who is
responsible for advising the president of Todays Electronics on electronic manufacturing
equipment, has developed the following table concerning a proposed facility:
a. develop an opportunity loss table
b. what is the mimimax regret decision?
Profit ($)

Large facility
Medium sized facility
Samll facility
No facility

Strong Market Fair Market Poor Market


550,000
110,000
(310,000)
30,000
129,000
(10,000)
20,000
10,000
(32,000)
0
0
0

3-32
Bill Holiday is not sure what he should do. He can either build a quadplex, build a
duplex, gather additional information, or simply do nothing. If he gathers additional
information, the results could be either favorable or unfavorable, but it would cost him
$3,000 to gather the information. Bill believes that there is a 50-50 chance that the
information will be favorable. If the rental market is favorable, Bill will $15,000 with the
quadplex or $5,000 with the duplex. Bill doesnt have the financial resources to do both.
With an unfavorable rental market, however, Bill could lose $20,000 with the quadplex or
$10,000 with the duplex. Without gathering additional information, Bill estimates that the
probability of a favorable rental market is .7. A favorable report from the study would
increase the probability of a favorable rental market to .9. Furthermore, an unfavorable
report from the additional information would decrease the probability of a favorable

rental market to .4. Of course, Bill could forget all of these numbers and do nothing.
What is your advice to Bill?
3-42
In the past few years, the traffic problems in Lynn McKells hometown have gotten
worse. Now, Broad Street is congested about half the time. The normal travel time to
work for Lynn is only 15 minutes when Broad Street is used and there is no congestion.
With congestion, however, it takes Lynn 40 minutes to get to work. If Lynn decides to
take the expressway, it will take 30 minutes regardless of the traffic conditions. Lynns
utility for travel time is:
U(15 minutes) = .9
U(30 minutes) = .7
U(40 minutes) = .2
a. Which route will minimize Lynns expected travel time?
b. Which route will maximize Lynns utility?
c. When it comes to travel time, is Lynn a risk seeker or risk avoider?