Preferences towards Risk 1

Subject:EconomicsPrice: Bought3

Share With

Preferences towards Risk

1. Zach has $25,000 to invest in a new biotech ?rm. The ?rm is currently in the process of seeking FDA approval for a new gene therapy for cancer. Ifthe FDA approves the new therapy then the value of the ?rm will quadruple so that Zach's initial investment of $25,000 will be worth $100,000. However, if the FDA does not approve the therapy the ?rm will go bankrupt and Zach will lose his entire investment. The FDA approves applications for new gene therapies only 30% of the time. :1. Suppose that Zach does not know whether or not the FDA will approve the therapy, but he knows that 30% of the applications are approved. If Zach is risk neutral, will he invest in the new company? b. Suppose now that Zach is risk averse. Can you tell, without ambiguity, whether or not he will invest in the new company? Explain by referring to one (or more) utility graphs.