9781118041581

Answers to Odd-Numbered Problems 21

an “open strategy” is (.25)(1.5) (.25)(1.1) (.25)(.8) (.25)(.6) 

$1.0 million. Thus, the “open” strategy is preferred.

b. The “open” strategy is less risky in the sense of having a narrower

range of possible outcomes. Managerial risk aversion would be an

added reason to pursue this strategy.

5. a. The tree lists the six possible outcomes (in thousands of dollars) and
   the expected value of each chance circle. Overall expected profit is
   $1,500.

1.5

.2

.5

R = 120

.3

R = 160

R = 175

.6

C = 150

.4

C = 170

.6

C = 150

.4

C = 170

.6

C = 150

.4

C = 170

–30

–50

10

–10

25

5

–38

2

17

b. E (revenue) (.2)(120,000) (.3)(160,000) (.5)(175,000) 

$159,500. Expected cost is: (.6)(150,000) (.4)(170,000) $158,000.

Thus, the expected profit is $159,500 $158,000 $1,500, the same

result as in part (a).

7. a. Let’s compute the expected costs (in $ billions) of the respective
   safety programs. For the “standard” program, the expected cost is:
   .160 (.01)(10) $.26 billion. For the “lax” program, the expected
   cost is: .040 (.03)(10) $.34 billion. For the “ultraconservative”
   program, the expected cost is: .240 (.005)(10) $.29 billion. A
   risk-neutral BP would choose the standard program because it delivers
   the lowest expected cost.
   b. At a judged 2 percent disaster risk, the (apparent) expected cost of
   the “lax” policy is: .040 (.02)(10) $.24 billion, making it appear to
   be the least-cost option. A judged $5 billion liability would reduce the
   expected cost for all three options. The biggest apparent reduction

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