# The Two Envelopes Problem

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1 1 The Two Envelopes Problem Rich Turner and Tom Quilter The Two Envelopes Problem, like its better known cousin, the Monty Hall problem, is seemingly paradoxical if you are not careful with your analysis. In this note we present analyses of both the careless and careful kind, providing pointers to common pitfalls for authors on this topic. As with the Monty Hall problem, the key is to condition on all the facts you have when you crank the handle of Bayesian inference. Sometimes facts unexpectedly have to provide you with information: and you have to take them into account. This point is well known, and most explanations of the paradox point this out. However authors then tend to make a number of mistakes. Firstly they claim the conventional analysis corresponds to using a uniform-improper distribution. This is wrong: it corresponds to a log-uniform improper distribution. Secondly they claim the root of the paradox is in the use of an un-normalisable distribution. This is merely a conjecture and a toy example provided here suggests that improper distributions exist which do not result in the paradox. The Two Envelopes Problem s ultimate lesson is that inference always involves making assumptions and any attempt to blindly use uniformative priors as a method for avoiding making assumptions can run into trouble. After all the innocuous uniform (or log-uniform) prior corresponds to a very strong assumption about your data. 0.1 The problem You are playing a game for money. There are two envelopes on a table. You know that one contains \$X and the other \$X, [but you do not know which envelope is which or what the number X is]. Initially you are allowed to pick one of the envelopes, to open it, and see that it contains \$Y. You then have a choice: walk away with the \$Y or return the envelope to the table and walk away with whatever is in the other envelope. What should you do? 0. The Paradox Clearly, to decide whether we should switch or stick we want to compute the expected return from switching ( R ) and compare it to

2 the return from sticking (trivially, \$Y ). Initially, the chances of choosing the envelope with the highest contents P (C=H) are equal to the chances of choosing the envelope containing the smaller sum P (C=L), and they are both 1. A careless analysis analysis might then reason that the expected return from switching is therefore: R = 1 Y P (C=H) + Y P (C=L) (1) = 1 Y 1 + Y 1 () = 5 4 Y (3) This would mean we expect to gain 1 Y from switching on average. 4 This is paradoxical as it says It doesn t matter which envelope you choose initially - you should always switch. 0.3 A thought experiment So goes the usual explanation of the paradox. Where s the flaw in the analysis? In particular, a key question we have to resolve is does observing the contents of the first envelope provides us with useful information. If it does not, then it will not matter whether we stick or switch [just as it didn t matter which envelope we chose to start with]. First I m going to pursuade you that observing the contents does provide you with useful information. Then I m going to show you how to use Bayes theorem to correctly use this information to compute the optimal decision. Imagine you make your first choice, and open up the envelope only to discover that it contains a bill - the envelope is charging you money - Y is negative. Not only is this annoying, it is also very unexpected. Who said we could lose money playing this game? If we use the above analysis for the new situation, we should now stick and not switch. So the paradox - that we should switch regardless of Y - (partly) melts away if the assumption that Y is always positive is broken. Put another way: if Y can be negative or positive then we d have to observe Y before we decided whether switch. The moral of the story is that we should pay closer attention to our assumptions and, in particular, to what Y is telling us.

3 3 0.4 Condition on all the infomation So we made a mistake: When computing the expected reward above we should have taken into account [technically, condition on] all the information we have available to us at the time. Equation 1 should therefore have read: R = 1 Y P (C=H Y ) + Y P (C=L Y ) (4) We didn t do this because we naively we thought the amount of money that the envelope contained didn t provide any useful information (ie. P (C=H Y ) = P (C=H), conditional independence). However the thought experiment above shows us that this is not necessarily true, and moreover whether it is or not depends on our assumptions. The cure is that we should work through the analysis stating the assumptions explicitly. The way to incorporate these assumptions explcitly is to use Bayes theorem: P (C=i Y ) = P (C=i Y ) = P (Y C=i)P (C=i) P (Y ) P (Y C=i)P (C=i) P (Y C=H)P (C=H) + P (Y C=L)P (C=L) (5) (6) We have already noted that the probability that P (C=H) = P (C=L) = 1 and so the factors of 1 in the denominator and numerator all cancel and we can plug the result into the formula for the expected reward: 1Y P (Y C=H) + Y P (Y C=L) R = P (Y C=H) + P (Y C=L) = 1 Y 1 + 4γ(X) 1 + γ(x) (7) (8) P (Y C=L) The expected reward therefore depends on γ = and we are P (Y C=H) now forced to state our beliefs about the two distributions:p (Y C=L) and P (Y C=H) to calculate the expected reward. 0.5 Uniform beliefs At first sight a sensible distribution - in the sense that it is noncommital - is a uniform prior between two limits, Y min and Y max say:

4 4 p(y C=L) = 1 Y max Y min (9) = 1 (10) Z 1 p(y C=H) = (11) Y max Y min = 1 (1) Z For the sake of clarity let s think about the situation where Y is always greater than zero (Y min = 0). What are the possible values for γ? p(y C=L)dY p(y C=H)dY Well, if 0 < Y < Y min then γ = = 1/, so: R = 3Y/ and we should always switch. This makes sense - it is twice as likely that the envelope contains the lower amount in this case, so switching should yield + 1 1, which it does. 3 3 However, if Y min < Y < Y max then γ = 0 and R = 1 - we must have chosen the envelope containing the larger amount, the expected reward from switching is therefore \$ 1 and so we should stick. There is no paradox. 0.6 Improper uniform beliefs We might now say, well, I m very unsure about what value Y would take and therefore I ll make Y max extremely large, and take the limit Y max 1. This turns out to be a terrible assumption for any practical situation. As we take this limit p(y C=L) and p(y C=H) become very ill matched to any possible real data in such a way that this causes problems. All data we observe will lie beneath Y max (as it s tending to infinity). However, in this regime we believe it is twice as likely that the envelope contains the lower amount, and so we switch whatever we see. Put another way, in order to stick we would have to observe a Y which is larger than Y max, but we ll never encounter an envelope containing more than infinity dollars so we ll always switch. Although we tried to make the most non-commital assumptions possible - we ended up making very definite, absurd assumptions which 1 In this limit the uniform distribution is un-normalisable and such distributions are called improper although there are numbers greater than infinity, it s tough to write legal cheques for these amounts

5 5 makes sensible inference impossible. 3 Before we move on, it s worth mentioning that it might have been tempting to set γ equal to one in the above case. After all, in the limit both p(y C=L) and p(y C=H) are (improper) uniform distributions between zero and infinity. We would then have γ = 1 and recover the old result R = 5Y/4. However, setting the two densities equal is not consistent with the assumption that one envelope contains an amount twice that in the other. This assumption demands one density be half of the other (and to have twice the range). So the original analysis does not correspond to assuming a uniform improper distribution (as some authors claim). To conclude, it s impossible to use this particular improper distributions without being careful (or else we introduce a contradiction with our other assumptions) and even if we are careful they correspond to absurd assumptions (where we switch unless Y is greater than infinity). 0.7 The log-uniform beliefs If the γ = 1 case does not correspond to pair of uniform distributions p(y C=H) and p(y C=L), does it correspond to another choice? The answer, somewhat suprisingly, is yes. To see this we need to do some more work to simplify the form of γ. We can do this by realising that specifying p(y C=L) immediately specifies p(y C=H) (due to the doubling constraint). We can derive a relation which relates the two via manipulation which is easy to skrew up (as, for example, many authors on this paradox do - even in publications). Here s one way to make sure you get the right result: We want to sum up all the probability at Y in the old distribution which gets mapped to Y = Y in the new distribution. So we write down: p(y C=H) = = 0 p(y C=L)δ(Y Y )dy (13) p(u/ C=L)δ(U Y )du/ (14) = p(y/ C=L)/ (15) This makes intuitive sense: A chunk of probability in the old distribution p(y C=L)dY is mapped to a region centred at Y = Y but it is smeared out to extend over a length dy so the density at p(y C=L) must be half that of p(y/ C=L). 3 Note, however, that as we take the limit the paradox (that we should always switch regardless of Y ) does not rear it s ugly head.

6 6 If γ equals one then this means: p(y C=L) = p(y C=H) = p(y/ C = L)/ for all Y, which holds when p(y C=L) = 1/Y. This is a uniform distribution on log Y and says, I have know idea about the scale of Y. I think Y is as likely to be between 1 and 10 as it is to be between 10 and 100. This seems more sensible than the uniform prior before - for one thing, it decreases with Y. However, this distribution is not normalisable (without introducing a lower and upper cut-off and then γ is not 1 for all Y ). Limiting arguments fail for the same reason they did in the uniform case: in the region where both the distributions are non-zero, you should always switch. So taking Y max to infinity pushes the regime where you should stick to a place where no data will land. Again, the limit corresponding to the improper distribution corresponds to a terrible set of assumptions. 0.8 A sensible approach Is there a sensible approach? In a word yes. However, it will depend on what assumptions you want to make. In a way the previous discussion is a red-herring: you might be quite happy to use a uniform distribution, or a log-uniform distribution - and everything will be ok so long as you think carefully about the choice for the ranges (am I playing with a friend for his poket money, or am I through to the final stages of a game-show called Who wants to be a billionaire?). 4 One final alternative (which does not have hard cut-offs) is to place an exponential distribution over Y : P (Y C=L) = λ exp( λy ) (16) 1/λ is the characteristic length scale over which the density decays. From eqn. 8 we should switch when: 1 γ(y ) (17) = exp( λy/) (18) (An intuition for this equation is that it is the result of a hypothesis test: we shuld switch when it is more likely we ve chosen the envelope containing the smaller amount. That is when P (C = L Y ) > P (C = H Y ). Plugging in values we ll get the same result as above.) 4 One alternative is to place a prior over the ranges and integrate them out: P (Y C=L) = R P (Y C=L, Y min, Y max)p (Y min, Y max)dy mindy max

7 7 So we switch when Y ln 4 3, which is proportional to the λ λ characteristic length scale, as expected. 0.9 I want to specify a marginal, not a conditional! We have discussed how specifying the conditional distrution P (Y C = L) immediately specifies the other conditional P (Y C = H) = 1P (Y/ C = L). Together these two distributions combine to form the marginal distribution, or more intuitively, the distribution over values of money we expect to see in envelopes: P (Y ) = P (Y C = L)P (C = L) + P (Y C = H)P (C = H). This is uniquely determined once we specify P (Y C = L) as P (Y ) = 1P (Y C = L) + 1 P (Y/ C = L). This opens up the 4 possibility of the reverse: specifying a marginal and then deriving the two conditionals. The above equation can be solved by recursion, yielding: P (Y C = L) = n=0 ( )n P ( n Y ) under the proviso that N P ( N Y C = L) 0 as N. This equation says: You give me a marginal, I ll give you the conditional A sensible improper distribution Does using an improper distribution always lead to the paradox? Some author s claim so, but it hasn t been proved. More over the intuition from the above examples is that it wasn t the improper nature of the distribution which lead to the paradox (as some authors glibly state) - it was the fact that they corresponded to stupid assumptions. Let s try and invent a distribution which correspondeds to reasonable assumptions in the limit where they become un-normalisable. 5 The key intuition is this: we ll be fine as long as the point we always switch is not situated in the extreme of the range of allowed Y values. For instance, if the conditional distributions have some periodic struture of correctly chosen amplitude then there can be regions when one distribution is much higher than the other, and regions when the converse is true. In this case the paradox will not arise. Whatsmore, the marginal distribution P (Y ) implied by the two periodic conditionals may not be such a stupid one 6. Let me give a simple example: 5 Another point noted by authors is that the improper distribution above has an infinite mean value - this may correspond to another undesireable assumption too. For instance there are proper distributions which have infinite expected value and in such cases the paradox can occur too. 6 Although a counter example might be enough to convince the mathematicians the paradox doesn t arise from un-normalisabilty, it would be nice if such a counter example corresponded to a realistic

8 8 P (Y C = L) = 4η n + 1 > x > n (19) P (Y C = L) = 1η otherwise (0) Over some range L that we extend to infinity (and therefore η 0) to make our improper prior. This specifies the other conditional: And the marginal: P (Y C = H) = η 4n + > x > 4n (1) P (Y C = H) = 1/η otherwise () P (Y ) = 3η 4n + 1 > x > 4n (3) P (Y ) = 3/η 4n + > x > 4n + 1 (4) P (Y ) = 9/4η 4n + 3 > x > 4n + (5) P (Y ) = 3/4η 4n + 4 > x > 4n + 3 (6) Is this a sensible marginal? Well, imagine that some types of coins were harder to come by than others. For example, imagine only 1,5,9,13... valued coins existed. Then we might like something like this (perhaps we d like to add in a 1/Y decay too). When should we switch? This depends on Y in the following way: Region P (Y C = L) P (Y C = H) switch? I 4n + 1 > x > 4n 4η η doesn t matter II 4n + > x > 4n + 1 1η η no III 4n + 3 > x > 4n + 4η 1/η yes IV 4n + 4 > x > 4n + 3 1η 1/η doesn t matter So we do need to listen to what the data are telling us even though the condtionals are improper.

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