Principles of Macroeconomics (MindTap Course List)
8th Edition
ISBN: 9781305971509
Author: N. Gregory Mankiw
Publisher: Cengage Learning
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Chapter 14, Problem 4CQQ
To determine
Moral hazard and adverse selection.
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Individuals will prefer to fully insure against a potential adverse event if
A. individuals are risk-loving and insurance is priced at an actuarially fair rate.
B. individuals are risk-averse and insurance is priced at an actuarially fair rate.
C. individuals are risk-loving and insurance is priced above the actuarially fair rate.
D. individuals are risk-averse and insurance is priced above the actuarially fair rate.
For each of the following kinds of insurance, give anexample of behavior that reflects moral hazard andanother example of behavior that reflects adverseselection.a. health insuranceb. car insurancec. life insurance
An insurance company suffers from adverse selection if
Select one: a. Safe customers are less
likely to insure than risky customers b. Customers know their willingness to pay for insurance but the company does not
c. Its customers are risk averse d. Customers take on much greater risk because than insure
Chapter 14 Solutions
Principles of Macroeconomics (MindTap Course List)
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- How might adverse selection make it difficult for an insurance market to operate?arrow_forward7 3. How would the utility of a risk lover look like? a. Graph the utility function. Will this person be willing to pay for insurance?arrow_forward___ occurs when insurance companies structure plans that provide an incentive for healthier consumers to enroll while discouraging enrollment of higher-risk individuals a. Guaranteed renewability b. Cherry-picking c. Moral Hazard d. Asymmetric Information e. Adverse Selectionarrow_forward
- 2. Below is a market for health insurance, with 5 people. Their expected costs, risk premiums, and willingness to pay for insurance are given. The average expected costs are 92. a.Suppose an insurance company offers a premium equal to 92. Determine who will buy and won't buy at that premium (top chart to fill in). Find the insurer's revenue, expenses and profit at that premium (bottom chart to fill in). Then repeat for the higher premiums in periods 2 and 3. Expected Risk Period 1 Willingness Premium to Pay 22 Period 2 Period 3 Costs Premium=$92 Premium=$130 Premium=$180 Person 1 20 2 Person 2 40 5 45 Person 3 80 15 95 Person 4 120 30 150 Person 5 200 60 260 Total 460 Mean 92 Insurer Revenue Insurer Expenses Profit a. Over time, what is happening to the number and type of people in the market for insurance, and what is happening to insurer profits? +arrow_forwardFor each of the following kinds of insurance, give anexample of behavior that can be called moral /raumtand anotJ,cr example of behavior that can be calledadverse selection.a. health insuranceb. car insurancec. tile insurancearrow_forwardWhat term do economists use to describe the tendency for people to prefer certain outcomes over risky situations? a. The precautionary principle b. Risk differentiationc. Risk uncertainty d. Risk aversion e. Risk managementarrow_forward
- 2. Suppose that a farmer usually makes profit of $120,000 per year. Let's say that there is a 2% chance that a tornado will hit the farm. This would strongly hurt farmer's profit, leading to losses of $96,000 with 2% probability. a. What is the actuarially fair insurance? b. Assume that the farmer utility is given by u = T 0.5 where t represents profit. What is the farmer's expected utility with no insurance? c. How much would the farmer be willing to pay to have insurance? d. Assume that the farmer expects that the tornado's effect to your farm is lower, only leading to losses of $70,000. i. What is the actuarially fair insurance? ii. What is the farmer's expected utility with no insurance? iii. How much would the farmer be willing to pay to have insurance? iv. What is the risk premium?arrow_forwardAn insurance company offered drivers auto insurance. Assume that claims by safe drivers cost the insurer $1,000 over the term of the policy and claims by reckless drivers costs $5,000. Drivers know whether they are safe or reckless, but the insurer only know that 10% of drivers are reckless. a. What is the expected cost of losses to the insurance company? b. How much does the insurance company have to charge for auto insurance to break-even? Why? I found answer for part a. but I didn't find any answer for part b. Could you please post answer for part b. Please don't repeat answer from old post. I just need answer for part b. Thank youarrow_forwardThe risk that covers events like unexpected changes in the economy refers to: Select one: A. All of the above B. Systematic risk. C. Total risk. D. Unsystematic riskarrow_forward
- 3. Moral Hasard and Insurance The utility is U = W¹/2-350S+95S¹/2; where W is wealth and S is care taken to avoid accidents. Probability of accident is 0.70-S¹/2 Wealth is $850,000 without accident and $300,000 with accident. a. Calculate S, EU and CE without insurance. b. Calculate S and EU with full insurance.arrow_forwardOf the methods for covering risk, which is essentially a dollar for dollar shift of consumption between periods? A. Savings B. Private Market Insurance C. Social Insurance D. Charityarrow_forwardease use utility of wealth function in the booK, 8-1 (see below). Certainty Utility B D 200 198 194 D' Total utility 170 of wealth C' Expected Utility A 140 10,000 15,000 19,000 20,000 Wealth FIGURE 8-1 Total Utility of Wealth and the Impact of Insurance Please explain the difference between the certainty utility line and the expected utility line b. Calculate your E(U), given an 80% change of being healthy and 20% of being sick, knowing that your income falls to $10,000 and your utility is 140 if you get sick. Calculate your E(W), given an 80% change of being healthy and 20% of being sick. d. Given that your Certainty Utility Function is U = 200Y-0.00154 and Y is your income, what is your Certainty Utility with insurance (if you are risk averse) What insurance premium will you pay to guarantee a utility of 197? Please provide a calculation.arrow_forward
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