Answer to Question #107278 in Macroeconomics for Felix Sichalwe

Question

Suppose investor A has $20 000 in his account and drives 4 utiles of utility from this amount and would derive 5 utiles if he had $40 000.He is faced with a choice to invest the $20 000 in a project that has 60% of earning a profit of 20 000 and 40% probability of losing $20 000? 1. Is the manager likely to invest in project?

Answer 1

If the investor is faced with a choice to invest the $20 000 in a project that has 60% of earning a profit of 20 000 and 40% probability of losing $20 000, then the expected return is:

ER = 0.6×20,000 + 0.4×(-20,000) = 4,000.

As his utility will increase, if he earn more profit, then the manager likely to invest in project.