1. L12
Uncertainty

2. Three Applications Model with real endowments 1. Labor Supply
(Labor-Leisure Choice)
2. Intertemporal Choice
(Consumption-Savings Choice)
3. Uncertainty (Insurance)
(Consumption across states of the world)

3. Uncertainty Two States of the world: no rain and rain Probabilities
Goods: consumption
Endowment: wealth in two states
Possibility of insurance

4. Budget Constraint

5. Uncertainty and Lotteries

6. Translation: (“as if” markets)

7. Expected value Lottery (random variable)
Expected value: average payment
Examples

8. Preferences and Utility
Uncertainty – special preferences
Bernoulli utility function
Von Neumann-Morgenstern utility
(Expected utility)

9. Risk attitudes
Example 1:
Example 2:
Example 3:

10. Indifference curves

11. Marginal Rate of Substitution

12. Choice of Insurance

13. Fair vs. not fair Insurance
Why?
Free Entry and Law of Large Numbers

14. Fair Insurance

15. Not Fair Insurance When Insurance is not fair
In optimum: (First secret of happiness)