Exam 20: Uncertainty and Information

If Ringo is risk averse, at a wealth of $200,000 his utility of wealth curve has a ________ slope and his marginal utility of wealth is ________ than at a wealth of $100,000.

If insured drivers decide to drive more recklessly than uninsured drivers do, then an adverse selection has occurred.

-Ashton has the utility of wealth curve shown in the above figure. Ashton owns a sports car worth $30,000, and that is his only wealth. Ashton is a careless driver and there is a 30 percent chance that he will have an accident within a year. If he does have an accident, his car is worthless. Suppose all sports cars owners are like Ashton. An insurance company agrees to pay each person who has an accident the full value of their car. The company's operating expenses are $1,000. What is the minimum insurance premium that the company is willing to accept?

You overhear the following in the hallway, "Everyone eventually dies, so how can a life insurance company make a profit? Isn't it a losing battle? You will always have to pay the death benefit to your clients!" You know that life insurance companies can be profitable. This is because

Katy has an ailing and wealthy, but miserly, parent. The parent has told Katy that if she takes care of him until he dies, then she will get $100,000 in inheritance. Katy knows that there is only a 50-50 chance that her father will leave her the full amount or nothing. To take care of her father, she has to take a job that pays $30,000 where her current job pays her $70,000 per year. If her father is expected to pass away in 1 year, what is Katy's expected wealth if she takes care of her father?

In the health insurance market, adverse selection occurs when

Jon is risk averse. When he buys insurance against all risks, then

Kedran is indifferent between option A, which gives her $10,000 for sure, and option B, which gives her $5,000 with probability 0.4 or $15,000 with probability 0.6. Kedran's cost of risk for option B is

Your grade point average acts as ________ to potential employers.

One way of reducing the moral hazard problem in the automobile insurance market is for drivers to

Suppose Nara could invest her $1000 in a savings account or she could invest in the stock market. After one year, the savings account has a guaranteed 5 percent interest rate and the stock market has a 10 percent chance of tripling her money, and 90 percent chance of losing it all. What is Nara's expected wealth if she places her money in the stock market?

Rhonda's utility of wealth is 65 units at $5,000, 80 units at $7,000, and 95 units at $10,000. Starting from zero wealth, she must choose between options A and B. Option A gives her $7,000 for sure. Option B gives her $5,000 with probability 0.6 or $10,000 with probability 0.4. Rhonda

Travel insurance (which pays a traveler if the traveler needs to cancel his or her trip) has a clause that states it will not pay if the trip is cancelled because of a pre-existing condition. If sick people are more likely to purchase travel insurance, this clause is meant to

Expected utility is a weighted average in which the weights are

The International Maritime Bureau said the waters off Somalia are the world's most dangerous, accounting for nearly a third reported pirate attacks worldwide. Suppose all boats are insured to $100,000 and pay a premium of $15,000 each. Suppose 10 out of 100 boats are attacked by pirates and these 10 file claims with their insurance. Has the insurance company earned an economic profit?

-Nick has two job offers, one as a financial planner and one as an economist for a regional bank. The income that Nick would expect to earn as a financial planner depends how effective he is in getting clients. He estimates that he would receive either $80,000 and a utility of 75, with a probability of .50, or he would earn $30,000 and a utility of 35, with a probability of .50. The economist job would pay $45,000 per year and has a utility of 55. The expected income as a financial planner is ________ and as an economist is ________.

-Ashton has the utility of wealth curve shown in the above figure. He owns a sports car worth $30,000, and that is his only wealth. Ashton is a careless driver and there is a 30 percent chance that he will have an accident within a year. If he does have an accident, his car is worthless. The maximum amount that Ashton is willing to pay for auto insurance is

In the used car market, adverse selection can be limited by

Suppose Nara could invest her $1000 in a savings account or she could invest in the stock market. After one year, the savings account has a guaranteed 5 percent interest rate and the stock market has a 10 percent chance of tripling her money, and 90 percent chance of losing it all. To give Nara the maximum expected wealth, what should she do?

Mortgage insurance protects lenders when a borrower defaults by making up any shortfall needed to repay the loan if the sale of the property doesn't cover the debt. Federally regulated lenders must have mortgage insurance on loans where the buyer's down payment is less than 20 per cent of the price. In this example, what signal do potential homeowners give to indicate they are low-risk?