Problem Set #1

[Due on Friday, March 4 by 6pm ET (submitted via Canvas)]

Reminder: You should feel free to discuss the problems with your fellow students, and in fact are

encouraged to do so. However, after discussing the problems, you must write out your answers on

your own. Directly copying someone else’s problem set will be considered cheating.

You have plenty of time to complete this problem set, and so I will expect your answers to be clear

and concise . It is suggested that you fifirst work out your answers on scratch paper, and then write

up (or type up) your answers in a manner that clearly identififies how to solve the problem while

not including any extraneous information or discussions.

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Question 1:

Suppose that Jennifer evaluates gambles according to prospect theory with a value function that

has the three properties suggested by Kahneman & Tversky but with  (  ) = 

. On the other hand,

Bruce evaluates gambles according to prospect theory with a value function that has the three

properties suggested by Kahneman & Tversky and with a probability weighting function that has

the properties of subcertainty, subproportionality, and overweighting of small probabilities.

(a) If Jennifer chooses lottery ($2000   1; $900   8; $0   1) over lottery ($900  1) , could she also choose

lottery ($900   2; $0   8) over lottery ($2000   1; $0   9) ? Could Bruce exhibit that pattern of choices?

Explain your answers.

(b) If Jennifer chooses lottery ($0   4; $1500   2; $2100   4) over lottery ($1500   2; $1000   8) , could she

also choose lottery ($0   05; $1000   2; $2000   75) over lottery ($0   15; $2000   75; $2100   1) ? Could

Bruce exhibit that pattern of choices? Explain your answers.