Jellymatter

This post is about a classic probability puzzle. It goes something like this: I place two envelopes on the table in front of you. One of them contains a Prize, which is an amount of money in pounds, but you don’t know how much it is. The other one contains a Special Bonus Prize, which is worth exactly twice as much money as the Prize. It’s your lucky day — but you can only choose one envelope. Which do you choose?

“Well,” you say to yourself, “it doesn’t matter, they’re both the same,” so you pick one at random. Let’s say it’s the one on the left. But now I ask you if you want to change your mind.

“Well,” you might say to yourself, “let x be the amount of money in the envelope I’m holding. This envelope has a 50% chance of being the Prize, in which case the other envelope contains 2x. On the other hand, there’s a 50% chance that this is the Special Bonus Prize, in which case the other envelope contains 0.5x. But still, the expected value of the other envelope is 0.5*2x + 0.5*0.5x = 1.25x. So on the balance of probabilities I should definitely switch.” But then I offer to let you switch again, and again, and again, and every time you go through the same reasoning, never managing to settle on a particular envelope because each one seems like it should contain more money than the other.  Clearly something is wrong with this reasoning, but what is it?

In this post, I’ll solve this problem in what I consider to be the proper Bayesian way, pinpointing exactly where the problem is.  You might want to think about the question for a bit and come up with your own idea of its solution before reading on.