Fundamentals of Business Statistics: 6E John Loucks
Fundamentals of Business Statistics: 6E John Loucks
Fundamentals of Business Statistics: 6E John Loucks
of Business
Statistics
6E
Slides by
John
Sweeney Loucks
Williams
St. Edward’s
Anderson University
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Chapter 4
Introduction to Probability
Experiments, Counting Rules,
and Assigning Probabilities
Events and Their Probability
Some Basic Relationships
of Probability
Conditional Probability
Bayes’ Theorem
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Uncertainties
Managers
Managers often
often base
base their
their decisions
decisions on
on an
an analysis
analysis
of
of uncertainties
uncertainties such
such as
as the
the following:
following:
What are the chances that sales will decrease
if we increase prices?
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Probability
Probability
Probability is
is aa numerical
numerical measure
measure of
of the
the likelihood
likelihood
that
that an
an event
event will
will occur.
occur.
Probability
Probability values
values are
are always
always assigned
assigned on
on aa scale
scale
from
from 00 to
to 1.
1.
A
A probability
probability near
near zero
zero indicates
indicates an
an event
event is
is quite
quite
unlikely
unlikely to
to occur.
occur.
A
A probability
probability near
near one
one indicates
indicates an
an event
event is
is almost
almost
certain
certain to
to occur.
occur.
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Probability as a Numerical Measure
of the Likelihood of Occurrence
Increasing Likelihood of Occurrence
0 .5 1
Probability:
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Statistical Experiments
In
In statistics,
statistics, the
the notion
notion of
of an
an experiment
experiment differs
differs
somewhat
somewhat fromfrom that
that of
of an
an experiment
experiment in
in the
the
physical
physical sciences.
sciences.
In
In statistical
statistical experiments,
experiments, probability
probability determines
determines
outcomes.
outcomes.
Even
Even though
though the
the experiment
experiment is is repeated
repeated in
in exactly
exactly
the
the same
same way,
way, an
an entirely
entirely different
different outcome
outcome may
may
occur.
occur.
For
For this
this reason,
reason, statistical
statistical experiments
experiments are
are some-
some-
times
times called
called random
random experiments.
experiments.
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An Experiment and Its Sample Space
An
An experiment
experiment is
is any
any process
process that
that generates
generates well-
well-
defined
defined outcomes.
outcomes.
The
The sample
sample space
space for
for an
an experiment
experiment is
is the
the set
set of
of
all
all experimental
experimental outcomes.
outcomes.
An
An experimental
experimental outcome
outcome is
is also
also called
called aa sample
sample
point.
point.
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An Experiment and Its Sample Space
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An Experiment and Its Sample Space
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A Counting Rule for
Multiple-Step Experiments
Example: Bradley Investments
Bradley Investments can be viewed as a two-step
experiment. It involves two stocks, each with a set of
experimental outcomes.
Markley Oil: n1 = 4
Collins Mining: n2 = 2
Total Number of
Experimental Outcomes: n1n2 = (4)(2) = 8
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Tree Diagram
N N!
CnN
n n !(N n )!
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Counting Rule for Permutations
N N!
PnN n !
n (N n )!
1.
1. The
The probability
probability assigned
assigned to
to each
each experimental
experimental
outcome
outcome must
must bebe between
between 00 and
and 1,
1, inclusively.
inclusively.
where:
Ei is the ith experimental outcome
and P(Ei) is its probability
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Assigning Probabilities
2.
2. The
The sum
sum of
of the
the probabilities
probabilities for
for all
all experimental
experimental
outcomes
outcomes must
must equal
equal 1.
1.
where:
n is the number of experimental outcomes
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Assigning Probabilities
Classical Method
Assigning probabilities based on the assumption
of equally likely outcomes
Subjective Method
Assigning probabilities based on judgment
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Classical Method
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Relative Frequency Method
Number of Number
Polishers Rented of Days Probability
0 4 .10
1 6 .15
2 18 .45 4/40
3 10 .25
4 2 .05
40 1.00
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Subjective Method
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Subjective Method
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Events and Their Probabilities
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Events and Their Probabilities
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Events and Their Probabilities
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Some Basic Relationships of Probability
Complement of an Event
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Complement of an Event
c
The
The complement
complement of
of A
A is
is denoted
denoted by
by A
Ac..
Sample
Event A Ac Space S
Venn
Diagram
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Union of Two Events
The
The union
union of
of events
events A
A and
and BB is
is denoted
denoted by A B
by A B
Sample
Event A Event B Space S
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Union of Two Events
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Intersection of Two Events
The
The intersection
intersection of
of events
events AA and
and BB is
is the
the set
set of
of all
all
sample
sample points
points that
that are
are in
in both
both A
A and
and B.B.
The
The intersection
intersection of
of events
events A
A and
and BB is
is denoted
denoted by
by A
A
Sample
Event A Event B Space S
Intersection of A and B
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Intersection of Two Events
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Addition Law
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Addition Law
Two
Two events
events are
are said
said to
to be
be mutually
mutually exclusive
exclusive ifif the
the
events
events have
have no
no sample
sample points
points in
in common.
common.
Two
Two events
events are
are mutually
mutually exclusive
exclusive if,
if, when
when one
one event
event
occurs,
occurs, the
the other
other cannot
cannot occur.
occur.
Sample
Event A Event B Space S
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Mutually Exclusive Events
If
If events
events A
A and
and BB are
are mutually
mutually exclusive, P(A
exclusive, P(A B
B == 0.
0.
The
The addition
addition law
law for
for mutually
mutually exclusive
exclusive events
events is:
is:
There is no need to
include “- P(A B”
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Conditional Probability
P( A B)
P ( A| B )
P( B)
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Conditional Probability
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Multiplication Law
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Multiplication Law
Collins Mining
Markley Oil Profitable (C) Not Profitable (Cc) Total
Joint Probabilities
(appear in the body
Marginal Probabilities
of the table)
(appear in the margins
of the table)
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Independent Events
If
If the
the probability
probability of
of event
event A
A is
is not
not changed
changed by
by the
the
existence
existence ofof event
event B,
B, we
we would
would say
say that
that events
events AA
and
and BB are
are independent.
independent.
Two
Two events
events A
A and
and BB are
are independent
independent if:
if:
P(A|B)
P(A|B) == P(A)
P(A) or P(B|A)
P(B|A) == P(B)
P(B)
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Multiplication Law
for Independent Events
The multiplication law also can be used as a test to see
if two events are independent.
The
The law
law is
is written
written as:
as:
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Multiplication Law
for Independent Events
Example: Bradley Investments
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Mutual Exclusiveness and Independence
Do
Do not
not confuse
confuse the
the notion
notion of
of mutually
mutually exclusive
exclusive
events
events with
with that
that of
of independent
independent events.
events.
Two
Two events
events with
with nonzero
nonzero probabilities
probabilities cannot
cannot be
be
both
both mutually
mutually exclusive
exclusive and
and independent.
independent.
If
If one
one mutually
mutually exclusive
exclusive event
event is
is known
known to to occur,
occur,
the
the other
other cannot
cannot occur.;
occur.; thus,
thus, the
the probability
probability ofof the
the
other
other event
event occurring
occurring is
is reduced
reduced toto zero
zero (and
(and they
they
are
are therefore
therefore dependent).
dependent).
Two
Two events
events that
that are
are not
not mutually
mutually exclusive,
exclusive, might
might
or
or might
might not
not be
be independent.
independent.
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Bayes’ Theorem
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Bayes’ Theorem
Example: L. S. Clothiers
A proposed shopping center will provide strong
competition for downtown businesses like L. S.
Clothiers. If the shopping center is built, the owner
of L. S. Clothiers feels it would be best to relocate to
the shopping center.
The shopping center cannot be built unless a
zoning change is approved by the town council.
The planning board must first make a
recommendation, for or against the zoning change,
to the council.
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Prior Probabilities
Example: L. S. Clothiers
Let:
A11 = town council approves the zoning change
A22 = town council disapproves the change
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New Information
Example: L. S. Clothiers
The planning board has recommended against
the zoning change. Let B denote the event of a
negative recommendation by the planning board.
Given that B has occurred, should L. S. Clothiers
revise the probabilities that the town council will
approve or disapprove the zoning change?
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Conditional Probabilities
Example: L. S. Clothiers
Past history with the planning board and the town
council indicates the following:
P(B|A11) = .2 P(B|A
P(B|A22)) == .9
.9
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Tree Diagram
Example: L. S. Clothiers
P(B|A2) = .9
P(A2 B) = .27
P(A2) = .3
c P(A2 Bc) = .03
P(B |A2) = .1
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Bayes’ Theorem
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Posterior Probabilities
Example: L. S. Clothiers
Given the planning board’s recommendation not
to approve the zoning change, we revise the prior
probabilities as follows:
P( A1 )P(B| A1 )
P( A1 |B)
P( A1 )P(B| A1 ) P( A2 )P(B| A2 )
(. 7 )(. 2 )
(. 7 )(. 2 ) (. 3)(. 9)
= .34
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Posterior Probabilities
Example: L. S. Clothiers
The planning board’s recommendation is good
news for L. S. Clothiers. The posterior probability of
the town council approving the zoning change is .34
compared to a prior probability of .70.
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Bayes’ Theorem: Tabular Approach
Example: L. S. Clothiers
• Step 1
Prepare the following three columns:
Column 1 - The mutually exclusive events for
which posterior probabilities are desired.
Column 2 - The prior probabilities for the events.
Column 3 - The conditional probabilities of the
new information given each event.
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Bayes’ Theorem: Tabular Approach
Example: L. S. Clothiers
• Step 1
(1) (2) (3) (4) (5)
Prior Conditional
Events Probabilities Probabilities
Ai P(Ai) P(B|Ai)
A1 .7 .2
A2 .3 .9
1.0
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Bayes’ Theorem: Tabular Approach
Example: L. S. Clothiers
• Step 2
Prepare the fourth column:
Column 4
Compute the joint probabilities for each event and
the new information B by using the multiplication
law.
Multiply the prior probabilities in column 2 by the
corresponding conditional probabilities in column 3.
That is, P(Ai IB) = P(Ai) P(B|Ai).
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Bayes’ Theorem: Tabular Approach
Example: L. S. Clothiers
• Step 2
(1) (2) (3) (4) (5)
Prior Conditional Joint
Events Probabilities Probabilities Probabilities
Ai P(Ai) P(B|Ai) P(Ai I B)
A1 .7 .2 .14
A2 .3 .9 .27
.7 x .2
1.0
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Bayes’ Theorem: Tabular Approach
Example: L. S. Clothiers
• Step 2 (continued)
We see that there is a .14 probability of the town
council approving the zoning change and a
negative recommendation by the planning board.
There is a .27 probability of the town council
disapproving the zoning change and a negative
recommendation by the planning board.
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Bayes’ Theorem: Tabular Approach
Example: L. S. Clothiers
• Step 3
Sum the joint probabilities in Column 4. The
sum is the probability of the new information,
P(B). The sum .14 + .27 shows an overall
probability of .41 of a negative recommendation
by the planning board.
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Bayes’ Theorem: Tabular Approach
Example: L. S. Clothiers
• Step 3
(1) (2) (3) (4) (5)
Prior Conditional Joint
Events Probabilities Probabilities Probabilities
Ai P(Ai) P(B|Ai) P(Ai I B)
A1 .7 .2 .14
A2 .3 .9 .27
1.0 P(B) = .41
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Bayes’ Theorem: Tabular Approach
Example: L. S. Clothiers
• Step 4
Prepare the fifth column:
Column 5
Compute the posterior probabilities using the
basic relationship of conditional probability.
P
(i
A B
)
P
(A
i|B
)
P
(B
)
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Bayes’ Theorem: Tabular Approach
Example: L. S. Clothiers
• Step 4
(1) (2) (3) (4) (5)
Prior Conditional Joint Posterior
Events Probabilities Probabilities Probabilities Probabilities
Ai P(Ai) P(B|Ai) P(Ai I B) P(Ai |B)
A1 .7 .2 .14 .3415
A2 .3 .9 .27 .6585
1.0 P(B) = .41 1.0000
.14/.41
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End of Chapter 4
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