Question 1

The value of a deposit amount X with interest r after one period equals:

Accepted Answer

A) (X ×1)/(X × r) 
B) X × (1 + r) 
C) X/(1 + r) 
D) All of these are true. 
A) (X ×1)/(X × r) 
B) X × (1 + r) 
C) X/(1 + r) 
D) All of these are true.

Question 2

Insurance policies can be bought to cover unexpected costs due to:

Accepted Answer

A) fire damage to a home. 
B) automobile theft. 
C) fighting a rare disease. 
D) Individuals can buy insurance to cover all of these risks. 
A) fire damage to a home. 
B) automobile theft. 
C) fighting a rare disease. 
D) Individuals can buy insurance to cover all of these risks.

Question 3

In general, the amount people pay for insurance is:

Accepted Answer

A) lower than its expected value. 
B) higher than its expected value. 
C) higher than its future value. 
D) lower than its present value. 
A) lower than its expected value. 
B) higher than its expected value. 
C) higher than its future value. 
D) lower than its present value.

Question 4

Economists have observed that individuals have _______ tastes for taking on financial risks and are _______ in general.

Accepted Answer

A) varying; risk-averse 
B) the same; risk-averse 
C) varying; risk-seeking 
D) the same; risk-seeking 
A) varying; risk-averse 
B) the same; risk-averse 
C) varying; risk-seeking 
D) the same; risk-seeking

Question 5

Which of the following is closest to the future value of an $800,000 deposit earning 2 percent interest annually after 20 years?

Accepted Answer

A) $1,120,262 
B) $1,188,758 
C) $1,201,204 
D) $1,176,224 
A) $1,120,262 
B) $1,188,758 
C) $1,201,204 
D) $1,176,224

Question 6

To compute the present value of a future amount, you must know the _______ and the _______.

Accepted Answer

A) interest rate; compounding interest 
B) interest rate; time period 
C) compounding interest; time period 
D) None of these are true. 
A) interest rate; compounding interest 
B) interest rate; time period 
C) compounding interest; time period 
D) None of these are true.

Question 7

What is the foundational principle that allows insurance companies to work?

Accepted Answer

A) Risk pooling 
B) Risk assignment 
C) Catastrophic causation 
D) Risk analysis 
A) Risk pooling 
B) Risk assignment 
C) Catastrophic causation 
D) Risk analysis

Question 8

The present value of $500,000 received in 4 years at 7 percent interest is approximately:

Accepted Answer

A) $381,448. 
B) $655,398. 
C) $344,682. 
D) None of these are true. 
A) $381,448. 
B) $655,398. 
C) $344,682. 
D) None of these are true.

Question 9

Risk pooling:

Accepted Answer

A) reallocates the likelihood of catastrophes happening. 
B) reallocates the costs of catastrophes when they occur. 
C) diversifies the risk of catastrophes occurring. 
D) gathers individuals with similar risks and pools them together. 
A) reallocates the likelihood of catastrophes happening. 
B) reallocates the costs of catastrophes when they occur. 
C) diversifies the risk of catastrophes occurring. 
D) gathers individuals with similar risks and pools them together.

Question 10

The fee that insurance companies collect in exchange for covering unpredictable costs is called a(n):

Accepted Answer

A) premium. 
B) ultimatum. 
C) prepaid event charge. 
D) preventative payment. 
A) premium. 
B) ultimatum. 
C) prepaid event charge. 
D) preventative payment.

Question 11

Consider two insurance companies. Insurance Company A insures homes in Florida against hurricane damage. Insurance Company B insures homes in Oklahoma against tornado damage. Suppose that in the next year, there is a 20 percent chance that Florida will be hit by a devastating hurricane. If it does, Company A will lose $3 million. If no hurricane hits Florida, Company A will earn $5 million in profits. Suppose that also in the next year, there is a 10 percent chance that Oklahoma will be hit by a devastating tornado. If it does, Company B will lose $2 million. If there is no tornado, Company B will earn $4 million in profits.Now suppose that these two companies are considering a merger. If they merge, they will split their profits or losses equally. The potential outcomes and their probabilities are as follows:72 percent chance of neither a hurricane nor a tornado occurring;18 percent chance of a hurricane occurring, but not a tornado;8 percent chance of a tornado occurring, but not a hurricane;2 percent chance of both a tornado and a hurricane occurring.Which of the following statements is true?

Accepted Answer

A) Because the merged company will insure against more events, it faces more risk. 
B) Company A will benefit from this merge, but Company B will not. 
C) If the companies merge, the expected value of each company's earnings is $3,400,000. 
D) If the companies do not merge, the expected value of Company A's earnings is $4,600,000. 
A) Because the merged company will insure against more events, it faces more risk. 
B) Company A will benefit from this merge, but Company B will not. 
C) If the companies merge, the expected value of each company's earnings is $3,400,000. 
D) If the companies do not merge, the expected value of Company A's earnings is $4,600,000.

Question 12

Insurance companies try to mitigate the problem of adverse selection by:

Accepted Answer

A) asking potential customers questions to gain as much information as possible about the person's risk characteristics. 
B) charging a higher premium to groups with characteristics that correlate with risky behavior. 
C) charging a higher price to all individuals to counter the lack of information. 
D) All of these are true. 
A) asking potential customers questions to gain as much information as possible about the person's risk characteristics. 
B) charging a higher premium to groups with characteristics that correlate with risky behavior. 
C) charging a higher price to all individuals to counter the lack of information. 
D) All of these are true.

Question 13

If you knew that an investment was going to pay you $128 in 5 years, and you knew that the annual interest rate over that time would be 5 percent, you could calculate the present value to be:

Accepted Answer

A) $95. 
B) $90. 
C) $105. 
D) None are correct. 
A) $95. 
B) $90. 
C) $105. 
D) None are correct.

Question 14

In general, people are willing to pay more than the expected value of insurance because:

Accepted Answer

A) they are risk-averse. 
B) they would have trouble finding enough money to cover their losses. 
C) it allows them to afford major expenses from catastrophes without going bankrupt. 
D) All of these are true. 
A) they are risk-averse. 
B) they would have trouble finding enough money to cover their losses. 
C) it allows them to afford major expenses from catastrophes without going bankrupt. 
D) All of these are true.

Question 15

Benefits today cannot be directly compared with costs in the future because:

Accepted Answer

A) money today is worth more than money in the future. 
B) people do not have perfect willpower and will waste money today. 
C) investments aren't always profitable. 
D) more information is needed to make investment decisions than is typically available. 
A) money today is worth more than money in the future. 
B) people do not have perfect willpower and will waste money today. 
C) investments aren't always profitable. 
D) more information is needed to make investment decisions than is typically available.

Question 16

When thinking about investing money in _______, one must consider the trade-off between risk and expected value.

Accepted Answer

A) stocks 
B) retirement funds 
C) bonds 
D) All of these are true. 
A) stocks 
B) retirement funds 
C) bonds 
D) All of these are true.

Question 17

A deposit of $500 after a year at 3 percent interest has a value of:

Accepted Answer

A) $509. 
B) $515. 
C) $565. 
D) $1,500. 
A) $509. 
B) $515. 
C) $565. 
D) $1,500.

Question 18

Consider two insurance companies. Insurance Company A insures homes in Florida against hurricane damage. Insurance Company B insures homes in Oklahoma against tornado damage. Suppose that in the next year, there is a 20 percent chance that Florida will be hit by a devastating hurricane. If it does, Company A will lose $3 million. If no hurricane hits Florida, Company A will earn $5 million in profits. Suppose that also in the next year, there is a 10 percent chance that Oklahoma will be hit by a devastating tornado. If it does, Company B will lose $2 million. If there is no tornado, Company B will earn $4 million in profits.Now suppose that these two companies are considering a merger. If they merge, they will split their profits or losses equally. The potential outcomes and their probabilities are as follows:72 percent chance of neither a hurricane nor a tornado occurring;18 percent chance of a hurricane occurring, but not a tornado;8 percent chance of a tornado occurring, but not a hurricane;2 percent chance of both a tornado and a hurricane occurring.Which of the following statements is true?The expected value of Company A's earnings is the same whether or not the companies merge.If Company A is risk averse, the company would prefer to merge.The expected value of Company B's earnings is $3,400,000 if there is no merger.

Accepted Answer

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

Question 19

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

Accepted Answer

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

Question 20

What is the amount of interest owed on a loan of $75,000 after a year at an interest rate of 1 percent?

Accepted Answer

A) $7,500 
B) $75,750 
C) $82,500 
D) $750 
A) $7,500 
B) $75,750 
C) $82,500 
D) $750

Exam 11: Time and Uncertainty

The value of a deposit amount X with interest r after one period equals:

Insurance policies can be bought to cover unexpected costs due to:

In general, the amount people pay for insurance is:

Economists have observed that individuals have _______ tastes for taking on financial risks and are _______ in general.

Which of the following is closest to the future value of an $800,000 deposit earning 2 percent interest annually after 20 years?

To compute the present value of a future amount, you must know the _______ and the _______.

What is the foundational principle that allows insurance companies to work?

The present value of $500,000 received in 4 years at 7 percent interest is approximately:

Risk pooling:

The fee that insurance companies collect in exchange for covering unpredictable costs is called a(n):

Insurance companies try to mitigate the problem of adverse selection by:

If you knew that an investment was going to pay you $128 in 5 years, and you knew that the annual interest rate over that time would be 5 percent, you could calculate the present value to be:

In general, people are willing to pay more than the expected value of insurance because:

Benefits today cannot be directly compared with costs in the future because:

When thinking about investing money in _______, one must consider the trade-off between risk and expected value.

A deposit of $500 after a year at 3 percent interest has a value of:

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

What is the amount of interest owed on a loan of $75,000 after a year at an interest rate of 1 percent?

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

Economists have observed that individuals have _ tastes for taking on financial risks and are _ in general.

To compute the present value of a future amount, you must know the _ and the _.