Lek is deciding whether to enter a contest. If she wins, her rise in utility will be worth $10,000. If she loses, her change in utility would be worth -$500. She has a 5% chance of winning and a 95% chance of losing. What is Lek's expected utility if she participates in the contest?

Question

Quizplus · Accepted Answer

The expected utility can be calculated as follows:
Expected Utility = (Probability of winning x Utility from winning) + (Probability of losing x Utility from losing)
Expected Utility = (0.05 x $10,000) + (0.95 x -$500)
Expected Utility = $500 - $475
Expected Utility = $25

Therefore, Lek's expected utility if she participates in the contest is $25. The best choice for Lek depends on her risk aversion. If she is risk-averse, then she might choose not to participate because the expected utility is not that high. If she is risk-seeking, then she might choose to participate because the potential gain from winning is higher than the potential loss from losing. It ultimately depends on Lek's individual risk preference.

Lek Is Deciding Whether to Enter a Contest