Answered Essay: A decision maker's worst option has an expected value of $1,000, and her best option

A decision maker’s worst option has an expected value of $1,000, and her best option has an expected value of $3,000. With perfect information, the expected value would be $5,000. The decision maker has discovered a firm that will, for a fee of $1,000, make her position-risk free. How much better off will her firm be if she takes this firm up on its offer?

Multiple Choice

$3,000

$5,000

$4,000

$1,000

$2,000

Expert Answer

The answer is $1000

Expection value of worst payoff (Ew) = $1000

Expected value of best payoff (Eb) = $3000

Expected value with perfect information (Ewpi) = $5000

Expected value of perfect information (Evpi) = $1000

The decision is to choose the options the maximum payoff that payoff of $3000

The benefits of taking the offer – Ewpi – Eb – Evpi = $5000 – $3000 – $1000 = $1000

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