Certainty Equivalent

The certainty equivalent (CE) of a risky situation can be defined by means of a hypothetical lottery that guarantees payoff values x1, x2, xn with probabilities p1, p2, , pn. The certainty equivalent of this lottery is a payoff whose utility is equal to the expected value of utilities for x1, x2, xn ; that means

where u(xj) is utility of value xj for j=1,2,,n.

Certainty equivalent can be interpreted as a minimum amount one would be willing to accept for selling the considered lottery.