Suppose that a person's utility function is the square root of wealth. Suppose the person earns $100,000 per year. He or she has an illness with a probability of 0.2, and the cost of the treatment is $30,000. Would the person pay $6,000 for insurance? Why or why not? What is the most this person would pay to be insured (hint: equate expected utility to utility with certainty)? Suppose their utility function changed to wealth squared (hint: are they now risk averse?). Would they pay $6,000 for insurance? Why or why not?

Suppose that a person's utility function is the square root of wealth. Suppose the person earns $100,000 per year. He or she has an illness with a probability of 0.2, and the cost of the treatment is $30,000. Would the person pay $6,000 for insurance? Why or why not? What is the most this person would pay to be insured (hint: equate expected utility to utility with certainty)? Suppose their utility function changed to wealth squared (hint: are they now risk averse?). Would they pay $6,000 for insurance? Why or why not?

Microeconomic Theory

12th Edition

ISBN:9781337517942

Author:NICHOLSON

Publisher:NICHOLSON

Chapter7: Uncertainty

Section: Chapter Questions

Problem 7.5P

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