Question 1

You insure your car against theft. Consequently, you rarely lock the car. This describes the problem of:

Accepted Answer

A)  adverse selection. 
B)  moral hazard. 
C)  positive correlation. 
D)  risk aversion. 
A)  adverse selection. 
B)  moral hazard. 
C)  positive correlation. 
D)  risk aversion.

Question 2

Jaleh has just landed a great job and plans to buy a fancy car worth $100,000. Jaleh is otherwise risk-averse, but she likes to drive fast, so the probability that she wrecks the car (a total loss of $100,000) is 0.1. The probability that she has no accidents is 0.9. If an insurance company were to offer Jaleh a fair insurance policy that completely replaced her car, how much would she pay? What is the most she would pay for an insurance policy that would completely replace her car if she totaled it?

Accepted Answer

The fair insurance policy premium is equ

Question 3

People who want to reduce the risk they face may pay other people who are less sensitive to risk to take on some of their risk. As a result:

Accepted Answer

A)  a market for risk is illegal. 
B)  trade in risk reduces mutual gains. 
C)  total risk increases. 
D)  people who are willing to accept more risk will purchase from people who are less willing. 
A)  a market for risk is illegal. 
B)  trade in risk reduces mutual gains. 
C)  total risk increases. 
D)  people who are willing to accept more risk will purchase from people who are less willing.

Question 4

You go into a grocery store to buy a soft drink. You find that different brands or varieties have different prices: for a one-liter bottle, Coke costs $1, Pepsi costs $0.95, and ginger ale costs $1.05. The price of a one-liter bottle of a soft drink at your grocery store is therefore a random variable.

Accepted Answer

A) True 
 B)False

Question 5

Use the following to answer questions:  
-(Table: Choice with Uncertainty) Look at the table Choice with Uncertainty. Suppose the probability that the sitcom does not make it to television is 50%, that it makes it to television but is not the most viewed show in its time slot is 30%, 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 income is:

Accepted Answer

A)  $52,500. 
B)  $47,500. 
C)  $40,000. 
D)  $37,500. 
A)  $52,500. 
B)  $47,500. 
C)  $40,000. 
D)  $37,500.

Question 6

A life insurance company will often require an applicant to submit to a brief physical exam to assess that person's basic level of health. This practice is a form of _____ to lessen the problem of _____.

Accepted Answer

A)  diversification; moral hazard 
B)  signaling; deductibles 
C)  reputation; adverse selection 
D)  screening; adverse selection 
A)  diversification; moral hazard 
B)  signaling; deductibles 
C)  reputation; adverse selection 
D)  screening; adverse selection

Question 7

You are about to have a meeting with your manager about a raise in your salary. You are going to request an increase of $5,000, but you believe the probability of success to be only 25%. You believe there is a 25% probability your boss will counter with a $3,000 raise and a 25% probability that your boss will offer a $1,000 raise. Finally, there is a 25% probability that you will receive no increase in your salary. What is the expected value of the outcome of your meeting?

Accepted Answer

A)  $2,250 
B)  $9,000 
C)  $6,750 
D)  $3,000 
A)  $2,250 
B)  $9,000 
C)  $6,750 
D)  $3,000

Question 8

Use the following to answer questions:
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 will lose $5,000. However, if it is a rainy year and he invests only in the rain poncho company, he will earn $10,000. If it is a sunny year and he invests only in the sunglass company, he will earn $10,000; if he invests only in the rain poncho company, he will 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) Look at the scenario Diversification. If Morris invests half of his money in the sunglass company and half in the rain poncho company, what is his expected gain or loss?

Accepted Answer

A)  a loss of $2,500 
B)  to break even 
C)  a gain of $2,500 
D)  a gain of $10,000 
A)  a loss of $2,500 
B)  to break even 
C)  a gain of $2,500 
D)  a gain of $10,000

Question 9

Use the following to answer questions:
Scenario: Buying Shares
Geordie is considering buying shares in two companies, Apple and Microsoft. If he invests $1,000 in Apple, there is a 40% probability that his investment will be worth only $800 and a 60% probability that it will be worth $1,200 at the end of a year. If he invests $500 in Apple, there is a 40% probability that his investment will be worth $400 and a 60% probability that it will be worth $600 at the end of a year. The corresponding numbers for investment in Microsoft are identical.
-(Scenario: Buying Shares) Look at the scenario Buying Shares. The probability that Geordie will sustain a loss is _____ if he invests $1,000 in either Apple or Microsoft and is _____ if he invests $500 apiece in Apple and in Microsoft.

Accepted Answer

A)  40%; 40% 
B)  40%; 16% 
C)  80%; 20% 
D)  40%; 80% 
A)  40%; 40% 
B)  40%; 16% 
C)  80%; 20% 
D)  40%; 80%

Question 10

Risk-averse individuals are willing to make deals that reduce their income to reduce their risk.

Accepted Answer

A) True 
 B)False

Question 11

If a stock analyst believes there is a 10% probability that the stock price of Dymonatis will be $30 at the end of the year, a 50% probability that it will be $40, and a 40% probability that it will be $50, then the expected value of the stock at the end of the year is:

Accepted Answer

A)  $32. 
B)  $38. 
C)  $40. 
D)  $43. 
A)  $32. 
B)  $38. 
C)  $40. 
D)  $43.

Question 12

If there is a 50% probability that Joseph will earn $10 per hour at his job today and a 50% probability that he will earn $20 per hour today, his expected pay per hour is:

Accepted Answer

A)  $10.00. 
B)  $12.50. 
C)  $15.00. 
D)  $20.00. 
A)  $10.00. 
B)  $12.50. 
C)  $15.00. 
D)  $20.00.

Question 13

Suppose a person rolls a typical six-sided die. What is the probability that the die will come up with a 1 two times in a row?

Accepted Answer

A)  1 in 6 
B)  1 in 3 
C)  1 in 36 
D)  1 in 12 
A)  1 in 6 
B)  1 in 3 
C)  1 in 36 
D)  1 in 12

Question 14

Use the following to answer questions:  
-(Table: Amy's Utility Function) Look at the table Amy's Utility Function. Amy is an entrepreneur with income of $40,000. Amy is considering development of a new product. The probability that her new product earns Amy $30,000 in additional income is 0.5, and the probability that Amy incurs a reduction of $10,000 from her current income is 0.5. Amy's expected income after developing her new product is:

Accepted Answer

A)  $45,000. 
B)  $35,000. 
C)  $50,000. 
D)  $60,000. 
A)  $45,000. 
B)  $35,000. 
C)  $50,000. 
D)  $60,000.

Question 15

Why might the supply curve of insurance policies shift to the right?

Accepted Answer

A)  The wealth of the sellers of insurance increases. 
B)  Premiums increase. 
C)  Risk aversion increases. 
D)  Diversification increases. 
A)  The wealth of the sellers of insurance increases. 
B)  Premiums increase. 
C)  Risk aversion increases. 
D)  Diversification increases.

Question 16

Use the following to answer questions:  
-(Table: Natasha's Total Utility) Look at the table Natasha's Total Utility. Natasha's marginal utility _____ as her income increases. The marginal utility of income between $30,000 and $32,500 is _____ utils per dollar, while it is _____ utils per dollar between $47,500 and $50,000.

Accepted Answer

A)  increases; 0.48; 0.64 
B)  increases; 0.12; 0.36 
C)  diminishes; 0.50; 0.25 
D)  diminishes; 0.32; 0.04 
A)  increases; 0.48; 0.64 
B)  increases; 0.12; 0.36 
C)  diminishes; 0.50; 0.25 
D)  diminishes; 0.32; 0.04

Question 17

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

Accepted Answer

A)  no one will buy it. 
B)  only risk-tolerant individuals will buy it. 
C)  risk-averse individuals will buy it as long as the utility associated with the insurance is greater than the expected utility without the insurance. 
D)  risk-averse individuals will buy it as long as the utility associated with the insurance is less than the expected utility without the insurance. 
A)  no one will buy it. 
B)  only risk-tolerant individuals will buy it. 
C)  risk-averse individuals will buy it as long as the utility associated with the insurance is greater than the expected utility without the insurance. 
D)  risk-averse individuals will buy it as long as the utility associated with the insurance is less than the expected utility without the insurance.

Question 18

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

Accepted Answer

A)  weak; large 
B)  weak; small 
C)  strong; large 
D)  strong; small 
A)  weak; large 
B)  weak; small 
C)  strong; large 
D)  strong; small

Question 19

Use the following to answer questions:  
-(Table: Choice with Uncertainty) Look at the table Choice with Uncertainty. Suppose the probability that the sitcom does not make it to television is 50%, that it makes it to television but is not the most viewed show in its time slot is 30%, and that it makes it to television and is the most viewed show in its time slot is 20%. Given this information, Norman, as a utility maximizer:

Accepted Answer

A)  should keep his teaching job. 
B)  should quit his teaching job and go to Hollywood. 
C)  will be indifferent between leaving and staying, because his expected income is the same whether he stays a teacher or moves to Hollywood. 
D)  will be indifferent between leaving and staying, because his expected total utility is the same whether he stays a teacher or moves to Hollywood. 
A)  should keep his teaching job. 
B)  should quit his teaching job and go to Hollywood. 
C)  will be indifferent between leaving and staying, because his expected income is the same whether he stays a teacher or moves to Hollywood. 
D)  will be indifferent between leaving and staying, because his expected total utility is the same whether he stays a teacher or moves to Hollywood.

Question 20

An efficient market for risk, such as an insurance market, is most likely to exist:

Accepted Answer

A)  when there is a level playing field, so that all participants have approximately the same wealth and the same degree of risk aversion. 
B)  when the sellers of insurance are risk-averse but the purchasers are not. 
C)  when there are significant differences between individuals' wealth levels and attitudes toward risk. 
D)  in the presence of private, or asymmetric, information. 
A)  when there is a level playing field, so that all participants have approximately the same wealth and the same degree of risk aversion. 
B)  when the sellers of insurance are risk-averse but the purchasers are not. 
C)  when there are significant differences between individuals' wealth levels and attitudes toward risk. 
D)  in the presence of private, or asymmetric, information.

You insure your car against theft. Consequently, you rarely lock the car. This describes the problem of:

People who want to reduce the risk they face may pay other people who are less sensitive to risk to take on some of their risk. As a result:

A life insurance company will often require an applicant to submit to a brief physical exam to assess that person's basic level of health. This practice is a form of _ to lessen the problem of _.

Risk-averse individuals are willing to make deals that reduce their income to reduce their risk.

If a stock analyst believes there is a 10% probability that the stock price of Dymonatis will be $30 at the end of the year, a 50% probability that it will be $40, and a 40% probability that it will be $50, then the expected value of the stock at the end of the year is:

If there is a 50% probability that Joseph will earn $10 per hour at his job today and a 50% probability that he will earn $20 per hour today, his expected pay per hour is:

Suppose a person rolls a typical six-sided die. What is the probability that the die will come up with a 1 two times in a row?

Why might the supply curve of insurance policies shift to the right?

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

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

An efficient market for risk, such as an insurance market, is most likely to exist:

First Principles

Economic Models: Trade-Offs and Trade 25

Supply and Demand

Consumer and Producer Surplus

Price Controls and Quotas: Meddling With Markets

Elasticity

Taxes

International Trade

Decision Making by Individuals Firms

The Rational Consumer

Behind the Supply Curve: Inputs and Costs

Perfect Competition and the Supply Curve

Monopoly

Oligopoly

Monopolistic Competition and Product Differentiation

Externalities

Public Goods Common Resources

The Economics of the Welfare

Factor Markets and the Distribution of Income

Filters

Exam 20: Uncertainty, Risk, and Private Information

You insure your car against theft. Consequently, you rarely lock the car. This describes the problem of:

People who want to reduce the risk they face may pay other people who are less sensitive to risk to take on some of their risk. As a result:

A life insurance company will often require an applicant to submit to a brief physical exam to assess that person's basic level of health. This practice is a form of _____ to lessen the problem of _____.

Risk-averse individuals are willing to make deals that reduce their income to reduce their risk.

If a stock analyst believes there is a 10% probability that the stock price of Dymonatis will be $30 at the end of the year, a 50% probability that it will be $40, and a 40% probability that it will be $50, then the expected value of the stock at the end of the year is:

If there is a 50% probability that Joseph will earn $10 per hour at his job today and a 50% probability that he will earn $20 per hour today, his expected pay per hour is:

Suppose a person rolls a typical six-sided die. What is the probability that the die will come up with a 1 two times in a row?

Why might the supply curve of insurance policies shift to the right?

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

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

An efficient market for risk, such as an insurance market, is most likely to exist:

First Principles

Economic Models: Trade-Offs and Trade 25

Supply and Demand

Consumer and Producer Surplus

Price Controls and Quotas: Meddling With Markets

Elasticity

Taxes

International Trade

Decision Making by Individuals Firms

The Rational Consumer

Behind the Supply Curve: Inputs and Costs

Perfect Competition and the Supply Curve

Monopoly

Oligopoly

Monopolistic Competition and Product Differentiation

Externalities

Public Goods Common Resources

The Economics of the Welfare

Factor Markets and the Distribution of Income

Filters

A life insurance company will often require an applicant to submit to a brief physical exam to assess that person's basic level of health. This practice is a form of _ to lessen the problem of _.

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