The certainty equivalent is where the guaranteed payoff reaches “equilibrium” with a higher but uncertain payoff. (Mathematically, it’s the amount of the higher payout minus the risk premium. Stay with me.)

Suppose a game show contestant may choose one of two doors, one that hides $1,000 and one that hides $0. Further suppose the host will allow the contestant to take $500 instead of choosing a door. All three options (door 1, door 2, or $500) have the same expected value of $500, so there is no risk premium for choosing the doors instead of taking the guaranteed $500.

A contestant without fear of risk will be indifferent to these choices and consider each of them to be equal. A risk averse contestant will likely accept the guaranteed $500.

If too many contestants are risk averse, the game show may encourage contestants to take one of the riskier choices (door 1 or door 2) by creating a risk premium. If the game show offers $2,000 behind the good door, increasing to $1,000 the expected value of choosing doors 1 or 2, the risk premium becomes $500 (i.e., $1,000 expected value − $500 guaranteed amount). Contestants with a minimum acceptable rate of return of $500 will likely choose a door instead of accepting the guaranteed $500. – wikipedia