SEEM4480 - DECISION METHODOLOGY & APPLICATIONS

Fall 2013

Assignment 1
Due date: September 13, 2013, 5:30pm
Important notes:
1. You must submit your assignment on time. No late assignment will be accepted.
2. You must drop your assignment into the assignment collection box D08 @ 5/F of ERB. Please
dont hand in your assignment to the instructor or TAs.
3. Please include both your name and student ID in your submission.
4. Each question is worth 20 points.
5. TA Mr. Yang, Chaolin is responsible for grading this homework.
1. You do not know which one of four possible events 1 , 2 , 3 , 4 is true, but you do know that
the event has been selected by a canonical experiment giving chances 0.4, 0.2, 0.3 and 0.1 to
1 , 2 , 3 and 4 respectively. You as decision maker have to choose between acts a1 and a2 .
With either act there are two ultimate consequences, Win or Lose. The consequence of
either act for any event will also be determined by a canonical experiment: With act a1 ,
there is a 0.2 chance of Win if 1 is true, 0.3 if 2 is true, 0.6 if 3 is true, and 0.9 if 4 is true;
with act a2 there is a 0.7 chance of Win if 1 is true, 0.5 if 2 is true, 0.1 if 3 is true, and 0
if 4 is true. Which act would you choose and why?
2. Mr. Jones must choose between the following two canonical lotteries:
l1 = {(0.3 : c1 ), (0.2 : c2 ), (0.1 : c3 ), (0.4 : c5 )},
l2 = {(0.2 : c1 ), (0.5 : c3 ), (0.2 : c4 ), (0.1 : c6 )}.
consequences c1 to c6 are themselves complex entitles with both monetary and psychological
implications; after due consideration he has expressed his relative preferences among them
by the following assertion:
c1  c2  c3  c4  c5  c6 ,
c2 {(0.9 : c1 ), (0.1 : c6 )},
c3 {(0.6 : c1 ), (0.4 : c6 )},
c4 {(0.3 : c1 ), (0.7 : c6 )},
c5 {(0.2 : c1 ), (0.8 : c6 )}.
Should Mr. Jones choose l1 or l2 ?
3. Mr. Black must choose between the following two canonical lotteries:
l1 = {(0.3 : c1 ), (0.2 : c2 ), (0.4 : c3 ), (0.1 : c4 )},
l2 = {(0.1 : c1 ), (0.6 : c2 ), (0.1 : c3 ), (0.2 : c4 )}.
consequences c1 , c2 and c4 are rather definite and Black feels that:
c1 > c2 > c4 and c2 {(0.6 : c1 ), (0.4, c4 )}

Consequence c3 on the contrary involves many intangibles, and although Black feels sure that
c1 > c3 > c4 he is still struggling to find a such that
c3 {( : c1 ), (1 : c4 )}
For what range of values should Black prefer l1 to l2 ?
4. Mr. Smith must choose between the following two canonical lotteries:
l1 = {(0.2 : c1 ), (0.3 : c2 ), (0.4 : c3 ), (0.1 : c5 )},
l2 = {(0.25 : c1 ), (0.45 : c3 ), (0.3 : c4 )}.
After due consideration Simth has expressed his preferences for consequences by the following
assertion:
c1 > c2 > c3 > c4 > c5 ,
c3 {(0.6 : c1 ), (0.4 : c5 )},
c2 {(0.75 : c1 ), (0.25 : c3 )},
c4 {(0.5 : c3 ), (0.5 : c5 )}.
The subscript 3 in the last two of these statements is not a misprint. Which of the two
lotteries should Smith choose?
5. Consider the following four canonical lotteries, where M stands for million:
l1 = {(1 : $1M )}, i.e., $1 million for certain
l2 = {(0.10 : $5M ), (0.89 : $1M ), (0.01 : $0M )},
l3 = {(0.10 : $5M ), (0.90 : $0M )},
l4 = {(0.11 : $1M ), (0.89 : $0M )}.
Show that if you let c = $5M, c = $0M and $1M hi, then no matter what value has,
logical consistency (according to our Basis Assumptions) requires you to prefer either (1) l1
to l2 and l4 to l3 , or else (2) l2 to l1 and l3 to l4 .
(M. Allais, a French mathematical economist, has shown that many subjects choose l1 over
l2 , and l3 over l4 , and therefore implicitly violate some of our Basic Assumptions.)