Question 1

Calculating expected value involves:

Accepted Answer

A) estimating how likely different outcomes are and what the financial implications of each outcome might be. 
B) predicting the most likely outcome and planning for the event to occur. 
C) assuming the worst outcome will occur and evaluating the financial implication of that outcome. 
D) None of these are true. 
A) estimating how likely different outcomes are and what the financial implications of each outcome might be. 
B) predicting the most likely outcome and planning for the event to occur. 
C) assuming the worst outcome will occur and evaluating the financial implication of that outcome. 
D) None of these are true.

Question 2

The two big problems facing insurance companies in trying to manage risk are:

Accepted Answer

A) risk pooling and diversification. 
B) risk pooling and adverse selection. 
C) adverse selection and moral hazard. 
D) moral hazard and diversification. 
A) risk pooling and diversification. 
B) risk pooling and adverse selection. 
C) adverse selection and moral hazard. 
D) moral hazard and diversification.

Question 3

John is trying to decide whether to expand his business or not. If he continues his business as it is, with no expansion, there is a 50 percent chance his revenue will be $100,000 and a 50 percent chance his revenue will be $300,000. If he does expand, it will cost him $150,000, and there is a 30 percent chance his revenue will be $100,000; a 30 percent chance his revenue will be $300,000; and a 40 percent chance his revenue will be $500,000.If John decides to expand based on expected value, it means that:

Accepted Answer

A) the difference in expected revenue from expanding versus not expanding must be greater than $150,000. 
B) the expected revenue from not expanding must be less than $150,000. 
C) the difference in expected revenue from expanding versus not expanding must be less than $150,000. 
D) the expected revenue from expanding must be greater than $150,000. 
A) the difference in expected revenue from expanding versus not expanding must be greater than $150,000. 
B) the expected revenue from not expanding must be less than $150,000. 
C) the difference in expected revenue from expanding versus not expanding must be less than $150,000. 
D) the expected revenue from expanding must be greater than $150,000.

Question 4

When deciding whether or not to purchase insurance for an event, it is important to know:

Accepted Answer

A) how easily you can reduce the risk of experiencing the event. 
B) how many others will likely be affected by the event. 
C) how catastrophic the event would be. 
D) when the event is most likely to occur. 
A) how easily you can reduce the risk of experiencing the event. 
B) how many others will likely be affected by the event. 
C) how catastrophic the event would be. 
D) when the event is most likely to occur.

Question 5

Which of the following entities can diversify risk?

Accepted Answer

A) Individuals 
B) Corporations 
C) Insurance companies 
D) All of these entities can diversify risk. 
A) Individuals 
B) Corporations 
C) Insurance companies 
D) All of these entities can diversify risk.

Question 6

A consequence of adverse selection for the insurance market is that:

Accepted Answer

A) risk-seeking individuals typically pay higher premiums than risk-averse individuals. 
B) everyone ends up paying higher premiums. 
C) risk-averse individuals typically pay higher premiums than risk-seeking individuals. 
D) everyone ends up paying lower premiums. 
A) risk-seeking individuals typically pay higher premiums than risk-averse individuals. 
B) everyone ends up paying higher premiums. 
C) risk-averse individuals typically pay higher premiums than risk-seeking individuals. 
D) everyone ends up paying lower premiums.

Question 7

Compounding is the process of:

Accepted Answer

A) additional interest being paid on interest that has already been earned. 
B) adding the percentage of interest times your initial principal yearly. 
C) deposits steadily increasing a set amount annually. 
D) None of these are true. 
A) additional interest being paid on interest that has already been earned. 
B) adding the percentage of interest times your initial principal yearly. 
C) deposits steadily increasing a set amount annually. 
D) None of these are true.

Question 8

John is trying to decide whether to expand his business or not. If he continues his business as it is, with no expansion, there is a 50 percent chance his revenue will be $100,000 and a 50 percent chance his revenue will be $300,000. If he does expand, it will cost him $150,000, and there is a 30 percent chance his revenue will be $100,000; a 30 percent chance his revenue will be $300,000; and a 40 percent chance his revenue will be $500,000.What is the expected value of John's revenue if he chooses not to expand?

Accepted Answer

A) $400,000 
B) $200,000 
C) $250,000 
D) $225,000 
A) $400,000 
B) $200,000 
C) $250,000 
D) $225,000

Question 9

If you knew that an investment was going to pay you $1,188,757 in 20 years, and you knew that the annual interest rate over that time would be 2 percent, you could calculate the present value to be:

Accepted Answer

A) $1,000,000. 
B) $1,500,000. 
C) $905,000. 
D) $800,000. 
A) $1,000,000. 
B) $1,500,000. 
C) $905,000. 
D) $800,000.

Question 10

Suppose Jack and Kate are at the town fair and are choosing which game to play. The first game has a bag with four marbles in it-1 red marble and 3 blue ones. The player draws one marble from the bag; if it is red, $20 is won, and if it is blue, $1 is won. The second game has a bag with 10 marbles in it-1 red, 4 blue, and 5 green. The player draws one marble from the bag; $20 is won if it is red, $5 is won if it is blue, and $1 is won if it is green. Both games cost $5 to play.If Jack only cares about the expected value of the outcome and does not care about risk, he should _______ the first game because it costs _______ and the expected payoff is _______.

Accepted Answer

A) not play; $5; $5.75 
B) play; $5; $5.75 
C) play; $5.75; $5 
D) not play; $5.75; $5 
A) not play; $5; $5.75 
B) play; $5; $5.75 
C) play; $5.75; $5 
D) not play; $5.75; $5

Question 11

Suppose Jack and Kate are at the town fair and are choosing which game to play. The first game has a bag with four marbles in it-1 red marble and 3 blue ones. The player draws one marble from the bag; if it is red, $20 is won, and if it is blue, $1 is won. The second game has a bag with 10 marbles in it-1 red, 4 blue, and 5 green. The player draws one marble from the bag; $20 is won if it is red, $5 is won if it is blue, and $1 is won if it is green. Both games cost $5 to play.Jack decides to play the first game and Kate decides to play the second game. The expected value of the payoff:

Accepted Answer

A) is higher for Jack than for Kate. 
B) is lower for Jack than for Kate. 
C) is the same for both Jack and Kate, because there's only one red marble. 
D) is higher for Kate because there is a greater chance of being reimbursed for the cost of the game. 
A) is higher for Jack than for Kate. 
B) is lower for Jack than for Kate. 
C) is the same for both Jack and Kate, because there's only one red marble. 
D) is higher for Kate because there is a greater chance of being reimbursed for the cost of the game.

Question 12

John is trying to decide whether to expand his business or not. If he continues his business as it is, with no expansion, there is a 50 percent chance his revenue will be $100,000 and a 50 percent chance his revenue will be $300,000. If he does expand, it will cost him $150,000, and there is a 30 percent chance his revenue will be $100,000; a 30 percent chance his revenue will be $300,000; and a 40 percent chance his revenue will be $500,000.What is the difference in expected earnings if John chooses to expand versus not expand?

Accepted Answer

A) $320,000 
B) $200,000 
C) $150,000 
D) $120,000 
A) $320,000 
B) $200,000 
C) $150,000 
D) $120,000

Question 13

Economists have observed that people are:

Accepted Answer

A) generally risk-seeking. 
B) generally risk-averse. 
C) always risk-averse. 
D) always risk-seeking. 
A) generally risk-seeking. 
B) generally risk-averse. 
C) always risk-averse. 
D) always risk-seeking.

Question 14

Using hindsight to judge whether buying insurance was a good idea or not:

Accepted Answer

A) is the only way to properly measure the true cost of the insurance and its benefit. 
B) is not a good idea; you have to measure the decision considering the information available at the time. 
C) can prove that what was a good decision at the time can end up not being worth the cost. 
D) can help someone who is deciding whether or not to buy insurance in the future. 
A) is the only way to properly measure the true cost of the insurance and its benefit. 
B) is not a good idea; you have to measure the decision considering the information available at the time. 
C) can prove that what was a good decision at the time can end up not being worth the cost. 
D) can help someone who is deciding whether or not to buy insurance in the future.

Question 15

Risk diversification refers to the process by which:

Accepted Answer

A) people organize themselves into a group to collectively absorb the cost of the risk faced by each individual. 
B) insurance companies change their clients' risk aversion. 
C) risks are shared across different people, reducing the impact of any particular risk on any one individual. 
D) insurance companies reallocate the likelihood of catastrophes happening. 
A) people organize themselves into a group to collectively absorb the cost of the risk faced by each individual. 
B) insurance companies change their clients' risk aversion. 
C) risks are shared across different people, reducing the impact of any particular risk on any one individual. 
D) insurance companies reallocate the likelihood of catastrophes happening.

Question 16

Rational people prefer to experience immediate benefits and delayed costs because:

Accepted Answer

A) a fixed amount of money is worth less to us now than in the future. 
B) a fixed amount of money is worth more to us now than in the future. 
C) the value of a fixed amount of money does not change over time. 
D) rational people have insatiable wants. 
A) a fixed amount of money is worth less to us now than in the future. 
B) a fixed amount of money is worth more to us now than in the future. 
C) the value of a fixed amount of money does not change over time. 
D) rational people have insatiable wants.

Question 17

Jude owns a house worth $250,000 in an area that is prone to tornadoes. Suppose there is a 5 percent chance during the next year that Jude's house will incur $50,000 of damage from a tornado and a 1 percent chance that his home will be completely destroyed by a tornado. Suppose an insurance company offers him a policy that fully reimburses him in the event that his home is damaged by a tornado. The insurance company charges a $10,000 premium for this policy. Which of the following statements is true?The expected value of Jude's home when he buys insurance is higher than the expected value if he does not buy insurance.If Jude is risk neutral, he will prefer to not buy insurance.Economists would say it is irrational to purchase the insurance.

Accepted Answer

A) II only 
B) I and III only 
C) I only 
D) II and III only 
A) II only 
B) I and III only 
C) I only 
D) II and III only

Question 18

Suppose Jack and Kate are at the town fair and are choosing which game to play. The first game has a bag with four marbles in it-1 red marble and 3 blue ones. The player draws one marble from the bag; if it is red, $20 is won, and if it is blue, $1 is won. The second game has a bag with 10 marbles in it-1 red, 4 blue, and 5 green. The player draws one marble from the bag; $20 is won if it is red, $5 is won if it is blue, and $1 is won if it is green. Both games cost $5 to play.If Jack cares only about expected value, and does not mind risk, he should decide to play the game in which the expected value of the payoff is:

Accepted Answer

A) higher than the price to play the game. 
B) lower than the price to play the game. 
C) higher than the expected value of the payoff in the other game. 
D) double the price to play the game. 
A) higher than the price to play the game. 
B) lower than the price to play the game. 
C) higher than the expected value of the payoff in the other game. 
D) double the price to play the game.

Question 19

What is expected value?

Accepted Answer

A) The average of each possible outcome of a future event, weighted by its probability of occurring 
B) The average probability of all possible outcomes of a future event occurring, weighted by each possible outcome individually 
C) The sum of all probabilities of all possible outcomes of a future event occurring 
D) The most likely future outcome 
A) The average of each possible outcome of a future event, weighted by its probability of occurring 
B) The average probability of all possible outcomes of a future event occurring, weighted by each possible outcome individually 
C) The sum of all probabilities of all possible outcomes of a future event occurring 
D) The most likely future outcome

Question 20

If insurance companies knew how risky their customers were:

Accepted Answer

A) adverse selection would not occur. 
B) diversification would not occur. 
C) policies would be perfectly diversified, resulting in lower premiums for everyone. 
D) risk pooling would not occur. 
A) adverse selection would not occur. 
B) diversification would not occur. 
C) policies would be perfectly diversified, resulting in lower premiums for everyone. 
D) risk pooling would not occur.

Calculating expected value involves:

The two big problems facing insurance companies in trying to manage risk are:

When deciding whether or not to purchase insurance for an event, it is important to know:

Which of the following entities can diversify risk?

A consequence of adverse selection for the insurance market is that:

Compounding is the process of:

If you knew that an investment was going to pay you $1,188,757 in 20 years, and you knew that the annual interest rate over that time would be 2 percent, you could calculate the present value to be:

Economists have observed that people are:

Using hindsight to judge whether buying insurance was a good idea or not:

Risk diversification refers to the process by which:

Rational people prefer to experience immediate benefits and delayed costs because:

What is expected value?

If insurance companies knew how risky their customers were:

Economics and Life

Specialization and Exchange

Markets

Elasticity

Efficiency

Government Intervention

Consumer Behavior

Behavioral Economics: a Closer Look at Decision Making

Game Theory and Strategic Thinking

Information

The Costs of Production

Perfect Competition

Monopoly

Monopolistic Competition and Oligopoly

The Facts of Production

International Trade

Externalities

Public Goods and Common Resources

Taxation and the Public Budget

Poverty, Inequality, and Discrimination

Political Choices

Public Policy and Choice Architecture

Filters

Exam 11: Time and Uncertainty

Calculating expected value involves:

The two big problems facing insurance companies in trying to manage risk are:

When deciding whether or not to purchase insurance for an event, it is important to know:

Which of the following entities can diversify risk?

A consequence of adverse selection for the insurance market is that:

Compounding is the process of:

If you knew that an investment was going to pay you $1,188,757 in 20 years, and you knew that the annual interest rate over that time would be 2 percent, you could calculate the present value to be:

Economists have observed that people are:

Using hindsight to judge whether buying insurance was a good idea or not:

Risk diversification refers to the process by which:

Rational people prefer to experience immediate benefits and delayed costs because:

What is expected value?

If insurance companies knew how risky their customers were:

Economics and Life

Specialization and Exchange

Markets

Elasticity

Efficiency

Government Intervention

Consumer Behavior

Behavioral Economics: a Closer Look at Decision Making

Game Theory and Strategic Thinking

Information

The Costs of Production

Perfect Competition

Monopoly

Monopolistic Competition and Oligopoly

The Facts of Production

International Trade

Externalities

Public Goods and Common Resources

Taxation and the Public Budget

Poverty, Inequality, and Discrimination

Political Choices

Public Policy and Choice Architecture

Filters