Exam 20: Uncertainty, Risk, and Private Information

Suppose the probability of a major theft at a hotel is 1%, while the probability of an earthquake hitting the hotel is 2.3%.The probability that both would occur on the same day is therefore:

As the premium for an insurance policy rises, there is a(n):

By offering a menu of policies with different premiums and deductibles, insurance companies can their customers; for example, a low-risk customer will often buy insurance with a lower ________ but a higher than a high-risk customer.

Scenario: Diversification Morris is considering investing $10,000 in a sunglass company or a rain poncho company.If it is a rainy year and he invests only in the sunglass company, he expects to lose $5,000 at the end of the year.However, if it is a rainy year and he invests only in the rain poncho company, he expects to earn $10,000.If it is a sunny year and he invests only in the sunglass company, he expects to earn $10,000 at the end of the year; if he invests only in the rain poncho company, he expects to lose $5,000 in a sunny year.There is a 50% chance of a sunny year and a 50% chance of a rainy year. (Scenario: Diversification) Based on the information in the scenario Diversification, if Morris invests half of his money in the sunglass company and half in the rain poncho company, he will earn ________ if it is a sunny year and if it is a rainy year.

The pooling of risk is a form of diversification that produces a payoff with a very ________ risk.

As a result of frequent flooding, the insurance market has noted a positive correlation between flooding and the amount of insurance monies paid out for such floods.Holding demand for insurance constant, if flooding is expected to continue to be a problem:

(Table: Total Utility of Income After College Expenses) Look at the table Total Utility of Income After College Expenses.The Smith family's expected income after tuition is:

Barcelona and Los Angeles are similar towns, except Barcelona has a good public transportation system and Los Angeles does not.Auto insurance will probably be more expensive in ________, since the insurance _.

Buying a warranty on a DVD player is an example of paying to avoid risk.False

(Table: Choice with Uncertainty) Look at the table Choice with Uncertainty.Suppose the probability that the sitcom does not make it to television is 30%, that it makes it to television but is not the most viewed show in its time slot is 50%, and that it makes it to television and is the most viewed show in its time slot is 20%.Given this information, Norman's expected total utility is utils.

The funds that an insurance company could potentially pay out are known as the:

When an individual knows more about his or her own actions than other people do, incentives are distorted, which creates:

When faced with an insurance policy whose premium exceeds the expected value of the claim:

Amanda recently graduated from college, and she has a job offer with uncertain income: there is a 70% probability that she will make $10,000 and a 30% probability that she will make $70,000.The expected value of Amanda's income is:

When Lloyd's of London offered to provide insurance to merchant ships in the eighteenth century, Lloyd's was:

Figure: Differences in Risk Aversion (Figure: Differences in Risk Aversion) Based on the information in the figure Differences in Risk Aversion, which of the following statements is correct?

Uncertainty about monetary outcomes is known as:

Scenario: Used Car Market In the used car market, cars of poor quality are often referred to as "lemons," while cars that are of good quality are considered to be "plums." Suppose the probability of obtaining a lemon Is 60% and the probability of obtaining a plum is 40%.Also assume a plum is worth $15,000 and a lemon is worth $3,000. (Scenario: Used Car Market) Look at the scenario Used Car market.Adverse selection in this used car market occurs because of:

Suppose for the coming year, a family has calculated its expected value for car repairs to be $3,000.The family decides to buy a car insurance policy that would cover such claims.This insurance policy would cost a total of $3,000 for the household.This insurance policy is:

Scenario: Choosing Insurance The Ramirez family owns three cars and is considering buying insurance to cover the cost of repairs.They face two possible states: state 1, in which their cars need no repairs and their income available for purchasing other goods and services is equal to $50,000; and state 2, in which their cars need $10,000 worth of repairs and their income available for purchasing other goods and services is reduced to $40,000.The probability of repairs is 10%, while the probability of no repairs is 90%. (Scenario: Choosing Insurance) Refer to the information in the scenario Choosing Insurance.The Ramirez family can buy insurance that will cover the full cost of repairs for $900.If family members are risk-averse and maximize their expected utility: