Expected Utility (1): Risk Aversion, Risk Loving, and Risk Neutral

This video explains expected utility and three types of risk preferences: risk aversion, risk loving, and risk neutral, with a very simple example.

[@Kgp-ty5dk]

There is no one on earth who can explain this concept in 7 minutes better than you. Kudos to you, Ma'am!

[@IrisFranz]

Thanks!

[@sabirbashir6304]

@@IrisFranz hello mam I am having issue solving two problems of macroeconomics. Could u help?

[@nouman1937]

I cannot express my gratitude for this video. May God bless you. Beautifully explained !

[@yunggoth8505]

WORDS CANT DESCRIBE HOW MUCH YOUVE HELPED. MUCH THANKS.

[@IrisFranz]

Glad to help. Happy learning!

[@yunggoth8505]

@@IrisFranz Please I have a request. Can you do a video on the chapter pure market securities? which includes how to optimally allocate their wealth in terms of consumption and investment using lagrange equation.

[@robbenluo9649]

KZbin videos are always my saviors. Thank you.

[@IrisFranz]

Glad to help. Happy learning!

[@ryabwong8156]

Just wanna come by and say BIG THANK YOU to you

[@IrisFranz]

Glad it helped!

[@chaitanyagattamaneni6064]

The best video on the internet on this topic. Thank you

[@vishnureddy1884]

I searched many videos this is the best.

[@IrisFranz]

Thanks!

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[@user-en2ct8ql4g]

This is really great - please make more videos / I dont mind paying for subscription. Way better than my professor

[@nataliyapiatachenko8881]

Thank you a million times. So clear and laconic. Perfect!

[@IrisFranz]

Glad it was helpful!

[@mitrabor3043]

Perfect perfect perfect.she is a master in economics . Thank u

[@IrisFranz]

Thank you. Happy learning!

[@ektajohnson8170]

Great help for tomorrow's exam ....thanku very much 🤩

[@IrisFranz]

Best luck to your exam!

[@Nurj81]

Great, explanation. I get it.

[@charliehou9553]

Love You!!!

[@haoxiangqi5581]

Great demonstrations---also from UCSB. Thank u~

[@IrisFranz]

Glad to help! Please share with those who find Varian’ intermediate micro challenging.

[@bnarendrarao371]

Thanks a lot mam, concept is easily understandable

[@GAURAV0154]

You are awesome ❤

[@hamzawaseem9485]

Amazing

[@karenrosa9406]

Wow. Thanks ! It's so clear.

[@123fyn]

Nicely explained 🎉❤ thank you it means a lot to the each learner 🎉

[@sujoykumermondal8459]

thank you

[@SaheedAyoadeBalogun]

nice one!!!

[@Kkone.]

Great explanation, thank you !

[@yureiawungshi9915]

I love your teaching, new subscriber here 👍

[@IrisFranz]

Thanks and welcome

[@yongqiangqu9969]

Very nice explanation! Thank you!

[@IrisFranz]

You’re welcome. Happy learning!

[@LinhLe-zy3hg]

Thank you, it’s very helpful!

[@fluteworld8687]

Ok I got it! Thankyou

[@amlanbaishya2835]

Thanks mam❤

[@changeme454]

Thanks a lot

[@IrisFranz]

You’re welcome!

[@saoemersonsilva]

Thanks! Very clear. 🇧🇷

[@davismotomiya29]

Wealth u(W) = ROOT W, W=10, probability 0.3 to turn to 100, 0.7 to lose everything, wants to avoid risk, how much is he willing to pay? (0,1,2,3)

[@superchicken1832]

Hello, I'd like to ask how to know from just the utility function (when we're not given any values) whether it is a risk loving, averse or neutral? for example, by looking at √u(W) how to know what risk preference is it and what the shape of the curve will be. thank you very much!

[@IrisFranz]

By taking the second (2nd) derivative of the utility function. If the second derivative is negative, risk averse. If it is zero, risk neutral. Positive, risk loving. Best luck!

[@superchicken1832]

@@IrisFranz thank youu so much!!!+

[@IrisFranz]

Glad to help!

[@Alexdasilva872]

sacado este video. saludos desde españa ❤

[@nevamind68t23]

Thank you for sharing 👍🏾

[@IrisFranz]

You’re welcome!

[@aabdelaal168]

You helped a lot , thanks professor

[@IrisFranz]

You’re welcome!

[@JJ-hq1eu]

Thank you so much for the videos :))

[@kbuitienthinh]

Dear Professor Franz, thank you for your helpful and constructive lecture about the expected utility theory. May I have a few questions that I hope to receive your insights: 1) What does the first derivative of the U function have anything to do with the risk aversion/loving/neutral? For example, I understand that the risk aversion will have a negative second derivative and a positive first derivative, from which we can calculate the risk premium using Taylor expansion. So, is it a common rule to have a positive first derivative for, say, risk aversion? 2) What do you think are the common utility functions in the academic research? I just know a few, for example: The power utility function or the HARA function. 3) Can you explain the Archemidean axiom? Also, is this Archemidian axiom still in use, as I find it a bit weird when some older textbooks mentioned the Archemidean axiom while the more recent others didn't, in terms of the foundational axioms of expected utility theory that is. Thank you for your kindness for us the students. I wish the best for you and your loved ones during the Covid time :D .

[@subhodwipchatterjee4226]

excellent teaching.

[@IrisFranz]

Thanks!

[@the_milkyway6494]

Thanks a million!

[@IrisFranz]

You're welcome!

[@nickspencer5234]

This is great cheers

[@kosiancraze4161]

😘😍🥰thanks

[@IrisFranz]

You're welcome!

[@mewanchelangkisuchiang9861]

Risk Neutral topic is not include in the book of Intermediate Micro by VARIAN...

[@kfueitphotography6637]

how can i find risk tolerance at current wealth? i have given a function also u'(w)=1/w and u''=-1/w2 while his wealth is $400.. please tell me

[@aijaz6570]

Hello how to make their marginal utility curve..

[@IrisFranz]

Take the first order derivative.

[@ancyjohn7750]

Thank you

[@IrisFranz]

You're welcome! Please share with those who find economics challenging.

[@youssef7694]

keep up the videos - from UCSB

[@IrisFranz]

Thanks. I actually got my Econ PhD from UCI...😄

[@saamarthyadav8674]

loved it

[@IrisFranz]

Thanks!

[@mada_m]

Hello, professor, very insightful Given initial wealth, and 1/2 a chance to win or lose. How do I calculate the expected utility and also the expected gain?

[@IrisFranz]

Notice that there is a difference between "expected value" and "expected utility". For the same utility with the same expected value, different people with different risk preference (determined by their utility function) have different expected utility.

[@mada_m]

@@IrisFranz the question is as follows; An individual has a utility function given by (W) = W^1/2 and initial wealth of $100. If he plays a lottery in which he can win or lose $10 at the flip of a coin, compute his expected utility. What is his expected gain?

[@anotherrohit]

Why is the utility equation formula changing each time? Shouldn't the formula for Utility function be constant no matter what type of risk a player is getting himself involved in?

[@IrisFranz]

Good question. In this example, I am describing three different individuals. However, even for the same individual, a person is typically more risk loving when young, and then becomes more risk averse with age (do you know that West Virginia will pay young people $100 for getting the Covid-19 vaccine? Why not paying older people? Because older people are risk averse!) Furthermore, a person is typically risk averse when it comes to gain, but risk loving when it comes to loss- check “prospect theory” in behavioral economics.

[@anotherrohit]

@@IrisFranz Thank you very much for the explanation. Can The marginal utility function ln(x) be generalized for all risk averse insurance premium calculations?

[@IrisFranz]

ln(x) is monotonically increasing and concave, so it works for risk averse. Be careful, though- x must be greater than zero.

[@MuhammadAli-bg4zr]

This is good initiative to teach, well explained dear

[@mahdiaden7417]

How did you get the formula where U(x)=square root (x)? Same for risk lover and risk neutral where u apply other formulas

[@IrisFranz]

Anything that is monotonically increasing and concave would work for risk averse. Another example would be ln(x) for risk averse.

[@kritikachandel7398]

Perfect ❤

[@IrisFranz]

Thanks and happy learning

[@Datacrunch777]

Thankuu

[@IrisFranz]

Glad to help. Please share with those who find economics challenging.

[@robinettclan546]

Last comment I promise. Let me put it this way - the discovery is the same Simon Newcomb came across. Go to LinkedIn for my credentials. There will be a story to this.

[@rivalcommando4777]

Help!!! Maya's utility function is U(w)= 1- a/w Is this person risk averse or risk loving or risk neutral a>0 and w is wealth

[@IrisFranz]

Is this a question from homework, take home exam, or something else? I don’t want to breach academic integrity, so here is a hint. Take the first and second order or derivatives to check. Or watch this clip. kzbin.info/www/bejne/oYawp2Sajq6pgtk Best luck!

[@IrisFranz]

Yup. Second derivative is negative. You got it!

[@rivalcommando4777]

@@IrisFranz thank you so much

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[@dynaz7]

According to expected value theory, which should you prefer: a) lose $40 b) 40% chance of losing $100 Can you please answer this question and give the reason why you choose that answer? I have exam tomorrow 🥲

[@IrisFranz]

If you’re risk averse, a. If you’re risk loving, b. If you’re risk neutral, you’re indifferent between the two. Good luck with the exam.

[@dynaz7]

@@IrisFranz Your answer is according to expected utility theory right? But according to expected value theory, I need to choose the highest expected value and when I calculate the EV, both EV are 40..so, which one should I choose according to EV theory? Is it A?

[@Phil-jn1hb]

thank you