# Shared Flashcard Set

## Details

P&R Chap 5 - Uncertainty and Consumer Behavior
P&R Chap 5 - Uncertainty and Consumer Behavior
30
Pre-School
11/29/2013

Term
 probability
Definition
 Likelihood that a given outcome will occur.
Term
 subjective probability
Definition
 is the perception that an outcome will occur.
Term
 expected value
Definition
 Probability-weighted average of the payoffs associated with all possible outcomes.
Term
 The expected value measures the central tendency, which is...
Definition
 the payoff or value that we would expect on average.E(X)=Pr1X1 +Pr2X2 +...+PrnXn
Term
 payoff
Definition
 value associated with a possible outcome.
Term
 variability
Definition
 extent to which possible outcomes of an uncertain event differ.
Term
 deviation
Definition
 Difference between expected payoff and actual payoff.
Term
 risk-averse person:
Definition
 - marginal utility diminishes as income increases- curve is downward-sloping
Term
 risk-loving person:
Definition
 - marginal utility increases as income increases- curve is upward-sloping
Term
 risk-neutral person:
Definition
 - indifferent between certain and uncertain events with the same expected income- curve is straight
Term
 expected utility
Definition
 sum of the utilities associated with all possible outcomes, weighted by the probability that each outcome will occur.
Term
 risk averse
Definition
 Condition of preferring a certain income to a risky income with the same expected value.
Term
 risk neutral
Definition
 Condition of being indifferent between a certain income and an uncertain income with the same expected value.
Term
 risk loving
Definition
 Condition of preferring a risky income to a certain income with the same expected value.
Term
Definition
 Maximum amount of money that a risk-averse person will pay to avoid taking a risk.
Term
 The extent of an individual’s risk aversion depends on...
Definition
 ...the nature of the risk and on the person’s income.Other things being equal, risk-averse people prefer a smaller variability of outcomes.The greater the variability of income, the more the person would be willing to pay to avoid the risky situation.
Term
 For highly risk-averse person to remain equally well off, an increase in this individual’s standard deviation of income requires...
Definition
 ...a large increase in expected income.
Term
Definition
 Practice of reducing risk by allocating resources to a variety of activities whose outcomes are not closely related.
Term
 The ability to avoid risk by operating on a large scale is based on the "law of large numbers," which...
Definition
 tells us that although single events may be random and largely unpredictable, the average outcome of many similar events can be predicted.
Term
 actuarially fair
Definition
 Characterizing a situation in which an insurance premium is equal to the expected payout.
Term
 value of complete information
Definition
 Difference between the expected value of a choice when there is complete information and the expected value when information is incomplete.
Term
 point of behavioral economics
Definition
 to improve understanding of consumer demand (as well as the decisions of firms) by incorporating more realistic and detailed assumptions regarding human behavior.
Term
 reference point
Definition
 The point from which an individual makes a consumption decision.
Term
 endowment effect
Definition
 Tendency of individuals to value an item more when they own it than when they do not.
Term
 loss aversion
Definition
 Tendency for individuals to prefer avoiding losses over acquiring gains.
Term
 anchoring
Definition
 Tendency to rely heavily on one or two pieces of information when making a decision.
Term
 law of small numbers bias
Definition
 people tend to overstate the probability that certain events will occur when faced with relatively little information from recent memory.
Term
 calculation of expected utility
Definition
 requires two pieces of information: a utility value for each outcome (from the utility function) and the probability of each outcome.
Term
 most important assumption about consumer behavior
Definition