Exam 11: Risk and Information in Contracts

If too many high risk policyholders migrate to a comprehensive health insurance plan which covers a wide range of treatments, the price of a policy must increase.

An individual will be considered risk neutral if:

Which of the following is an example of incomplete information?

_____ refers to the situation faced by an insurance plan whose costs steadily increase as worse risks migrate toward it and better risks migrate away.

Which of the following is an example of a moral hazard?

Assume that a single insurance plan covers 2,000 low-risk people and 1,000 high-risk ones, all of whom pay the same premium, at which the insurer breaks even.If the average claim submitted by low-risk people is $100 while that submitted by high-risk people was $1,000, what would be the net benefit to a low-risk person from holding a policy?

The parties to a contract will choose to acquire possibly duplicative information if they believe that the increase in economic value being created will exceed the cost of discovering the information.

Which of the following is an example of a non-price provision in an automobile insurance contract that can reduce moral hazard?

Steve holds 100 shares of a company that currently trade at $10.There is a 50 percent probability of the market price increasing to $15 within the next quarter.If Steve waits for the market price of shares to increase before selling them off, he would be considered risk averse.

Which of the following can be a solution to the lemons problem?

What is asymmetric information? Describe with examples.

Which of the following actions can prevent migration of individuals from one health insurance policy to another?

Suppose in the market for used cars, buyers would be willing to pay $9,000 for a car in good condition, while buyers would have to incur a cost of $3,500 to repair a car in poor condition.If the probability of a car being in bad condition is 0.35, what price would a risk-neutral buyer be willing to pay?

If a purchase contract allows a buyer to accept less than a specified maximum "take" each month, buying a _____ would allow the seller to resell the excess at a _____ price.

How does asymmetric information affect a contract?

A contract containing an adjustment provision which allows the supplier to recover a fraction of his additional costs when input prices cross a certain level, is considered efficient because:

Which of the following theories states that people who are highly risk-averse are less likely to engage in high-risk activities?

Mention some of ways in which insurers control the problem of moral hazard.

Assume that the utility function of an individual is represented as U =√W - 0.001W; where W (his present wealth) = $250,000.He considers investing in a gamble which would double his wealth if he wins but still leave him with $250,000 if he loses.Given that his probability of winning is 0.6, calculate his expected utility of taking the bet.

The effects of asymmetric information in the car market can be weakened by: