Sarah buys little stuffed animals for $5 each. They come in different varieties. If the producer stops making (retires) a certain variety, a stuffed animal of that variety will be worth $100; otherwise it is worth $0. There is 25% chance that any variety will be retired. For the purchase of an individual animal, what is the value to Sarah of knowing ahead of time whether or not that variety will
be retired?
What will be an ideal response?
If Sarah did not know whether a variety is to be retired, her expected value of a purchase is (.75 ? -5 ) + (.25 ? 95 ) = -3.75 + 23.75 = $20.
If she knows ahead of time that a variety won't be retired, she won't buy one. So, her expected value becomes (.75 ? 0 ) + (.25 ? 95 ) = $23.75.
The information that a variety will or will not be retired is worth $3.75 to her.
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