Question

Exercise 2- Attitudes towards risk and fair bets The following graph represents Mike's marginal utility of income (not the utility but the marginal utility): Marginal Utility MU(I) Income We know that Mike's income I is greater than $20, but we do not know his exact income. Alejandro offers Mike the following bet: Alejandro will roll a 6 sided dice (all numbers equally likely). If it is 1 or 2, Mike pays Alejandro $20. Otherwise, if it is 3, 4,5 or 6, Alejandro pays Mike $10. a) Is this a fair bet? b) Will Mike accept or reject the bet? Do your answer depend on Mike's initial wealth? (assuming he can always pay the $20 if he loses)

Fig: 1