Question

Saint Petersburg Gambles - You are offered the following gamble based on coin flips. If the first heads occurs on the first flip, you get $2. If the first heads occurs on the second flip you get $4, and so on so that if the first head is on the Nth flip, you get $2N. The game continues until there is a heads. What is the expected value of this gamble? When offered, most people say they would only pay less than $10 to play this game. What are two reasons why people are willing to pay so much less than the expected value?

Answer 1

The first reason why people are willing to pay so much less or lower than the expected value is due to the uncertainty of flipping a heads. Heads may never be flipped.

The Second reason they are willing to pay so much less or lower is because the expected value will rarely reach over $10 because player would have to make it to the 5th flip in order to recoup their investment in which most of the players are unwilling and ready to take that risk.

Step-by-step explanation:

Saint Petersburg Gambles

The first reason why people are willing to pay so much less or lower than the expected value is due to the uncertainty of flipping a heads. Heads may never be flipped.

The Second reason they are willing to pay so much less or lower is because the expected value will rarely reach over $10 because player would have to make it to the 5th flip in order to recoup their investment in which most of the players are unwilling and ready to take that risk.