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True/False Questions

3. In Bayesian statistics, population parameters such as the mean and variance are

assumed to be random variables.

5. If the prior distribution is normal and the likelihood function is normal, then the

posterior distribution is also normal.

6. A continuous random variable has a probability density function, f(x), which may be

positive or negative.

7. The total area under the curve of the probability density function must equal one.

Chapter 15 Bayesian Statistics and Decision Analysis

10. Diffuse priors give much information about the process in question.

11. In a normal distribution, about 95% of the distribution lies within two standard

deviations of the mean.

12. In decision analysis, what actually takes place is called the state of nature.

13. Bayes, the person that Bayesian statistics is name after, was a British clergyman.

A) non-normal analysis

B) analysis using prior information

C) no hypothesis tests or confidence intervals

D) analysis by computer only

E) none of the above

A) personal probabilities

B) objective probabilities

C) gambling probabilities

D) game theory

E) none of the above

Chapter 15 Bayesian Statistics and Decision Analysis

A) concave

B) convex

C) straight line

D) s-shaped

E) none of the above

18. Suppose that you are sampling from a normal distribution with standard deviation 5.

The population mean is assumed to be a random variable with mean 10 and standard

deviation 3. A sample of size 100 gives a sample mean of 8. The posterior normal

distribution of the population mean has a mean equal to:

A) 0

B) 10

C) 5.389

D) 2.932

E) none of the above

19. Suppose that you are sampling from a normal distribution with standard deviation 5.

The population mean is assumed to be a random variable with mean 10 and standard

deviation 3. A sample of size 100 gives a sample mean of 8. The posterior normal

distribution of the population mean has a mean equal to:

A) 8.05

B) 8.01

C) 9.95

D) 9.99

E) none of the above

20. Suppose that you could buy a sure investment that gives 10% interest. You also have

the option of buying an investment that gives 12% return with a 50% chance and an

8% return with a 50% chance. The expected monetary value of the sure investment is:

A) equal to that of the risky investment

B) greater than that of the risky investment

C) lesser than that of the risky investment

D) insufficient information to determine

E) zero

Chapter 15 Bayesian Statistics and Decision Analysis

Chapter 15 Bayesian Statistics and Decision Analysis

A pharmaceutical company develops a new drug for a disease and expects it to have the

following prior probability distribution of success based on laboratory tests. The partially

completed posterior probability distribution of S is given.

S P (S ) P ( X |S ) P ( S ) P ( X |S ) P ( S |X )

.1 0 .0 5 0 .0 1 1 B

.2 0 .0 5 0 .0 8 8 0 .0 0 4 4

.3 0 .1 0 0 .2 0 0 0 .0 2 0

.4 0 .1 5 0 .2 5 1 0 .0 3 7 5

.5 0 .2 5 A 0 .0 5 1 2 5

.6 0 .3 0 0 .1 1 1 0 .0 3 3 3

.7 0 .1 0 0 .0 3 7 0 .0 0 3 6 C

1 .0 0

A random sample of ten patients revealed that four of them benefited from the drug.

A) 0.205

B) 0.377

C) 0.172

D) 0.246

E) none of the above

A) normal table

B) t table

C) chi-square table

D) nonparametric statistical test

E) binomial table

A) 0.0011

B) 0.00055

C) 0.5

D) 0.022

E) none of the above

Chapter 15 Bayesian Statistics and Decision Analysis

Chapter 15 Bayesian Statistics and Decision Analysis

A) 0.000502

B) 0.01998

C) 0.0239

D) 0.015075

E) none of the above

25. Assuming a normal distribution, a sample mean of ten, a sample standard deviation of

two, a sample size of 100, a prior mean of 12 and a prior standard deviation of 5; what

is the posterior mean?

A) 1

B) 50

C) 12

D) 10

E) none of the above

Stock A gives a 16% return with a probability of 0.4 and 19% return with a probability of 0.6.

Stock B gives a 14% return with a probability of 0.15 and a 21% return with a probability of

0.85.

A) both A and B are equally good

B) A is better

C) B is better

D) neither is worth investing in

E) insufficient information to determine which is better

Chapter 15 Bayesian Statistics and Decision Analysis

27. Stock C, gives a 22% return with a 0.30 probability, a 15% return with a 0.55

probability, and a 9% return with a 0.15 probability. Which of the three stocks is the

best in terms of its return?

A) A

B) B

C) C

D) B and C are equally good

E) A and C are equally good

A) Bayesian

B) posterior

C) prior

D) personal

E) none of the above

thought that there would be a 0.55 chance that the profits would be $7.5 million, and a

0.45 chance that the profits will be $4 million, in the first year. An alternative proposal

ensures a profit of $5 million, with minimal risk. What should the company do?

A) open the branch

B) definitely not open the branch and take the other alternative proposal

C) investigate the situation further

D) find a third alternative which is completely without risk

E) none of the above

A) actions

B) chance occurrences

C) final outcomes

D) subjective probabilities

E) decision

Chapter 15 Bayesian Statistics and Decision Analysis

A) prior probabilities

B) de Finetti game

C) Bayesian tests

D) construction of credible sets

E) none of the above

32. A computer manufacturer believes that her disk drives last an average 10,000 hours of

operation, without failure, with a standard deviation of 600 hours. A random sample of

25 computer drives reveals that the mean continuous operation time without failure is

10,500 hours, with a standard deviation of 250 hours. Compute the posterior mean.

A) 10,000

B) 10,497

C) 10,500

D) 10,406

E) none of the above

33. A computer manufacturer believes that his disk drives last an average 10,000 hours of

operation, without failure, with a standard deviation of 600 hours. A random sample of

25 computer drives reveals that the mean continuous operation time without failure is

10,500 hours, with a standard deviation of 250 hours. Compute the posterior variance

of the normal distribution of the population mean, m.

A) 2,482.76

B) 49.83

C) 11,703.5

D) 108.18

E) none of the above

A company is analyzing two investments. In the first investment, A, there is a 0.20 chance that

the investment results in a profit of $250,000, a 0.35 chance that it results in a profit of

$500,000, a 0.40 chance that it results in a profit of $350,000, and a 0.05 chance that it results

in a loss of $100,000. The second investment, investment B, has a 0.25 chance of a $550,000

profit, a 0.30 chance of a $700,000 profit, and a 0.45 chance of a $100,000 profit.

Chapter 15 Bayesian Statistics and Decision Analysis

A) A and B are equally good

B) B

C) A

D) neither is worth considering

E) insufficient information to determine which one is best investment

35. A third investment, C, has an 0.30 chance of a $400,000 profit, an 0.65 chance of a

$250,000 profit, and an 0.05 chance of an $150,000 loss. Which of these three

investments is best for the company?

A) A

B) B

C) C

D) B and C are equally good

E) A, B and C are all equally good

A) concave

B) convex

C) symmetric

D) straight line

E) s shaped

A) nonparametric statistics

B) prior information

C) very subjective probabilities

D) classical statistics

E) the binomial and the normal distributions

Chapter 15 Bayesian Statistics and Decision Analysis

The gasoline consumption of a car is advertised as 32 mpg, with a standard deviation of 1.5

mpg. A random sample of 30 cars reveals a mean gasoline consumption of 31 mpg with a

standard deviation of 1.1. Assuming normality and the gasoline consumption to be a random

variable,

38. Compute the posterior mean of the normal distribution of the population mean, m.

A) 30.69

B) 31.02

C) 5.57

D) 16.44

E) none of the above

39. Compute the posterior variance of the normal distribution of the population mean, m.

A) 0.4355

B) 0.1897

C) 0.3389

D) 0.0396

E) none of the above

A new company is entering the fast food market and the manufacturer expects it to have the

following prior probability distribution of the market share based on experience with similar

products.

M P (M ) P ( X |M ) P (M ) P ( X |M ) P ( M |X )

0 .1 0 .1 0

0 .1 5 0 .2 0

0 .2 0 0 .2 5

0 .2 5 0 .2 5

0 .3 0 0 .1 5

0 .3 5 0 .0 5

A random sample of twenty people revealed that two of them would prefer to go to this

restaurant.

Chapter 15 Bayesian Statistics and Decision Analysis

A) from normal table

B) by multiplying value of M times value of P(M)

C) from binomial table

D) by dividing the value of P(M) by total of P(M) column

E) none of the above

A) subjective probabilities

B) binomial probabilities

C) posterior probabilities

D) normal probabilities

E) none of the above

A) 1

B) 0

C) 0.95

D) at least 0.5

E) none of the above

A manager is trying to choose between options A, B & C. The value of each option depends

on the state of nature that occurs well after the choice has been made. The likelihood of the

two possible states of nature and the payoffs for the individual options are in the following

table:

S ta te o f N a tu r e (p r o b a b ility )

I ( .4 ) I I (.6 )

A $ 1 0 ,0 0 0 $ 3 0 ,0 0 0

B 4 0 ,0 0 0 5 ,0 0 0

C -2 ,0 0 0 5 0 ,0 0 0

Chapter 15 Bayesian Statistics and Decision Analysis

43. Suppose this manager is so pessimistic that he always chooses the option whose worst-

case scenario is most attractive. In this situation, how much does the manager's

pessimism cost him (in terms of expected value)?

A) If the manager follows his usual approach, in this case he will pass up $7,200 in

expected monetary value

B) If the manager follows his usual approach, in this case he will pass up $10,200 in

expected monetary value

C) If the manager follows his usual approach, in this case he will pass up $10,000 in

expected monetary value

D) If the manager follows his usual approach, in this case he will pass up $20,000 in

expected monetary value

E) Nothing, because his decision-making approach would, in this case at least, lead to

the optimal choice (in terms of expected monetary value)

44. In this situation, perfect information would be worth _____________ to this manager.

A) $ 50,000

B) $ 46,000

C) $ 29,200

D) $ 22,000

E) $ 16,800

A fast-food chain's internal process improvement consultant believes that the use of his

techniques will reduce average response time (assume a normal distribution) to 80 seconds,

with a standard deviation of 30 seconds. A local franchise owner has implemented these

techniques and taken a random sample of 20 transactions. The average response time for the

sampled transactions was 95 seconds, with a standard deviation of 10 seconds.

45. The posterior normal distribution for the mean response time after the implementation

of these techniques has a mean equal to:

A) 94.84

B) 94.92

C) 80.08

D) 84.66

E) 90.34

Chapter 15 Bayesian Statistics and Decision Analysis

46. The posterior normal distribution for the mean response time after the implementation

of these techniques has a standard deviation equal to:

A) 6.88

B) 5.57

C) 4.97

D) 3.14

E) 2.23

47. The 95% HPD credible set for m in this situation is:

A) [77.34, 97.57]

B) [73.74, 95.57]

C) [85.17, 104.66]

D) [90.55, 99.29]

E) [80.51, 109.43]

48. An occasional casino visitor has decided to switch games. In the past this visitor has

played a game in which he has a 48% of winning $1 and a 52% chance of losing $1. If

this visitor switches to a game that offers him only a 45% chance of winning $1, with

a 55% chance of losing $1, this visitor is becoming more ____________ since his

utility curve is increasingly _____________.

A) Risk-seeking; concave

B) Risk-avoiding; concave

C) Risk-seeking; convex

D) Risk-avoiding; convex

E) Risk-neutral; linear

plaintiff, and if a settlement is offered, how large a settlement to offer. An extensive review of

similar cases leads the defendant to conclude that if the lawsuit goes to trial, the plaintiff has a

probability of winning of 0.6. The typical jury award in such cases is $1,500,000. The

defendant's legal team estimates that a settlement offer of $500,000 has a 0.3 probability of

being accepted. If the settlement offer is rejected, the defendant could then choose to offer

$800,000 which would certainly be accepted or go to trial. A final option under

consideration is to simply offer the plaintiff $750,000 up front; the defendant's legal team

estimates that such a large initial offer would certainly be accepted.

Chapter 15 Bayesian Statistics and Decision Analysis

Chapter 15 Bayesian Statistics and Decision Analysis

49. What is the expected cost to the defendant of taking this lawsuit to trial?

A) $ 3,000,000

B) $ 1,500,000

C) $ 900,000

D) $ 800,000

E) $ 750,000

50. What is the optimal approach for this situation (from the defendant's perspective)?

A) Make an initial offer of $750,000

B) Make an initial offer of $500,000, and if this offer is rejected, make a subsequent

settlement offer of $800,000

C) Make an initial offer of $500,000, and if this offer is rejected, take the lawsuit to

trial

D) Make no settlement offer and take this lawsuit to trial

E) Either A or C are optimal approaches

51. Junkets Airline is considering whether or not to expand its trans-Atlantic routes. The

airline is considering three options: a major expansion of four additional jets, a

moderate expansion of two additional jets, or no expansion at all. The expected benefit

of the expansion options depends on the level of European vacation travel. Experience

has shown that three demand patterns are possible low, medium or heavy. Payoffs of

the expansion options under the various demand patterns are shown in the following

table:

D em and

O p tio n Low M o d e ra te H eavy

F o u r J e ts $ (4 0 0 ,0 0 0 ) $ 3 0 0 ,0 0 0 $ 1 ,0 0 0 ,0 0 0

T w o J e ts $ (2 5 0 ,0 0 0 ) $ 2 0 0 ,0 0 0 $ 7 0 0 ,0 0 0

N o E x p a n s io n 0 0 0

If Junkets has estimated the probability of a low demand environment to be 0.55 and

the probability of the heavy demand environment to be 0.20, what choice should

Junkets make if it wants to maximize its expected value?

Answer: The four-jet option offers the highest expected payoff (expected value =

$55,000). Therefore, if this airline wants to maximize its expected payoff, it should

choose the four-jet option.

Chapter 15 Bayesian Statistics and Decision Analysis

Chapter 15 Bayesian Statistics and Decision Analysis

52. The financial success of a ski resort is dependent on the amount of snow that falls

during the winter months. If the snowfall averages more than 40 inches, the resort will

be successful; if the snowfall is between 30 and 40 inches, a moderate return is

expected; and if the snowfall averages less than 30 inches, financial losses will accrue.

Probabilities for each snowfall amount have been developed by a weather service. The

financial return for each snowfall is as follows:

S n o w fa ll L e v e l

> 4 0 in . 3 0 -4 0 in . < 3 0 in .

L ik e lih o o d 40% 20% 40%

R e tu rn $ 1 ,2 0 0 ,0 0 0 $ 4 0 0 ,0 0 0 $ - 4 0 0 ,0 0 0

Suppose a large hotel chain has offered to lease the resort during the winter months

and will pay the hotel's owners a fixed fee of $450,000. What should the owners do?

Answer: The owners should pass up this fixed fee, since the expected value of not

leasing their resort is $30,000 larger ($480,000) than leasing it.

53. A real-estate developer is evaluating options for a tract of land near a major

metropolitan area. The value of the land to the developer depends on: A) how the

developer chooses to develop the land; and B) the pattern of economic development in

an adjacent suburb. The payoffs (in $1,000,000s) of the various development options

under the possible growth environments are as follows:

G r o w th E n v ir o n m e n t

I II III IV

R e s id e n tia l 1 .8 3 .2 0 .5 0 .5

C o m m e rc ia l 1 .6 3 .1 0 .9 1 .2

In d u s tria l 1 .7 1 .7 1 .8 2 .1

occurring is 25%. They anticipate a 35% chance of growth environment II emerging

and a 30% chance of growth environment III emerging.

B) What is the expected value of perfect information in this situation?

Answer:

A) The commercial development option maximizes the developer's expected payoff.

Its expected payoff is $1.875 million. Both the residential and industrial options have

expected payoffs of $1.77 million.

B) The expected value of perfect information in this situation is $0.445 million ($2.32

million - $1.875 million)

Chapter 15 Bayesian Statistics and Decision Analysis

Chapter 15 Bayesian Statistics and Decision Analysis

54. The set of conditional probabilities P(xq) for given x, is called ________________.

rather than fixed quantities.

56. The total area under the curve of a continuous function is always _____________.

59. What percent of the distribution lies within one standard deviation of the mean in a

normal distribution?

60. The final result of the steps in decision analysis is the ______________.

61. The method of solving decision trees by working backward from the final outcomes, is

called ________________.

Answer: averaging out and folding back Type: Concept Difficulty: Medium

62. Ordering items on a scale of values which reflects the amount of money it would take

to give them up is called ______________.

Chapter 15 Bayesian Statistics and Decision Analysis

63. The difference between the monetary value of a situation when perfect information is

available and the expected value of the decision situation when no additional

information is available is called the __________________.

64. As a manager in a large oil company, you must exercise your company's option on an

oil lease. Your choices are to drill the well, abandon the lease, or collect seismic data

before you decide. Your geologist estimates that with the present data, there is a .6

probability that you will drill a dry hole and lose $40,000,000, a .2 probability that

drilling will produce a moderately successful well and expect a $40,000,000 profit,

and a .2 chance of a gusher which will be expected to yield a $100,000,000 profit. If

you decide to abandon the lease, it will cost the company $20,000 and collecting the

additional seismic data will cost the company $1,700,000. The geologists estimate that

if there is a gusher, the test will be correct 70% of the time, there is a .1 probability

that the test will predict moderate production, and a .2 probability that the test will

predict a dry hole. If the well will produce moderate amounts of oil the test will be

correct 60% of the time, there is a .1 probability that the test will predict a gusher, and

a .3 probability that the test will predict a dry hole. If there is no oil to be found, the

test will be correct 60% of the time, predict a gusher 10% of the time, and a .3

probability that the test will predict moderate production. What should the decision

statement be? What should your decision statement be?

Answer: If you abandon, you will lose $20,000, if you drill you can expect to make

$4,000,000, and if you collect seismic data you can expect to make $12,374,800. You

should collect the seismic data and if the seismic test predicts a gusher, drill, otherwise

abandon the lease. Type: Computation Difficulty: Hard

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