An individual has preferences consistent with standard expected utility theory. They have utility function U(x) over wealth x. Starting with initial wealth of $10,000, the person is then faced with two choice problems. The first involves a choice between (A) no gamble and (B) a gamble with an equal chance of winning $1,800 and losing $1,000 . The second choice problem, the person first has $1,000
taken away (resulting in the adjustment of the reference point). The choice is then between (C) being given back $1,000 for sure and (D) an equal chance of winning $2,800 or nothing. What can be said about the choices the person would make?
a. The person would never choose both A and D.
b. The person would never choose both A and C.
c. The person would choose A and D.
d. The person would choose A and C.
a
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Suppose that Kara values a hot fudge sundae at $6 and Stacia values one at $5 . The pretax price of a hot fudge sundae is $3 . The government imposes a $1 tax on hot fudge sundaes, which raises the price to $4 . What is the deadweight loss from the tax?
To test their theories, economists usually have to
A) set up careful laboratory experiments with all variables controlled. B) first examine theory and compare it with what happened in the past in the real world. C) use only models that have a proven record of success. D) conduct experiments that involve people who do not behave rationally.