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Limitation 2 of utility theory

S

Strat_Lask

Member
Hi there

Could someone perhaps help me with this Q? I'm studying for Ct8 but given that this material was originally examined in ct7, I thought I'd try ask a ct7 tutor for some help on the material. I have posted the exact same query on the ct8 forum, but have yet to receive a response. Thank you in advance.

On page 44 in the chapter on "Utility Theory and Stochastic Dominance", I am not sure I completely understand what is meant by the expected utility theorem "cannot be applied separately to each of several sets of risky choices facing an individual". What exactly is meant by this limitation?

Thank you ever so much.

Kind regards
 
Strat_Lask,

I'm sorry for the very slow response. I have posted the following on the CT8 forum...

The EUT basically says that individuals can rank their happiness (expected utility) across different levels of wealth.

Imagine two possible investment opportunities. We could use our utility function + calculator to work out how happy each one would make us individually and decide whether or not to invest in either.

We may decide to invest in A from our current position
We may also decide to invest in B from our current position

However, it may be that the combination of A and B, we would not decide to invest from out current position.

We need to consider everything as a whole, we can't just assume that all the individual decisions will stay the same when combined.
 
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