Question 1

Suppose that the probability of a major theft at a hotel is 1%,while the probability of an earthquake hitting the hotel is 2.3%.The probability that both would occur on the same day is therefore:
A) 0.00023%.
B) 0.0023%.
C) 0.023%.
D) 2.3%.

Accepted Answer

To find the probability of both events happening on the same day, we need to use the formula for the probability of the intersection (overlap) of two events:

P(A and B) = P(A) x P(B|A)

where P(A) is the probability of event A happening, P(B|A) is the probability of event B happening given that event A has already happened.

In this case, let's call event A = major theft and event B = earthquake. We know that:

P(A) = 0.01 (1%) 
P(B) = 0.023 (2.3%)

However, we don't have information about the conditional probability P(B|A). We can't assume that they are independent, meaning that the occurrence of one event doesn't affect the occurrence of the other. For example, it's possible that an earthquake could trigger a major theft, or that a major theft could cause damage that leads to an earthquake.

Without any other information, the most conservative assumption is that the events are dependent and that the probability of both happening is the product of the probabilities of each event occurring sequentially:

P(A and B) = P(A) x P(B|A) = P(A) x P(B after A)

Since we don't know the exact probability of B after A, we can assume it's equivalent to P(B), which gives us:

P(A and B) = P(A) x P(B) = 0.01 x 0.023 = 0.00023

However, this is a very low probability, and there's a good chance that the events are at least somewhat independent. Therefore, a more realistic estimate would be to assume that the conditional probability is lower than the marginal probability of B, but not by much.

One reasonable estimate is to assume that the events are weakly dependent, meaning that the occurrence of one event slightly increases or decreases the probability of the other. In this case, we could assume that the conditional probability of B given A is about 1%, which is lower than the marginal probability of B but not by much.

Using this estimate, we get:

P(A and B) = P(A) x P(B|A) = 0.01 x 0.01 = 0.0001

This is still a very low probability, but it's 10 times higher than the conservative estimate.

Therefore, the best answer is C) 0.023%, which assumes that the events are independent, but recognizes that they could be weakly dependent, leading to a higher likelihood of both happening on the same day.

Question 2

Barcelona and Montreal are similar,except Barcelona has a good public transportation system and Montreal does not.Auto insurance will probably be more expensive in _____ since the _____ for insurance is _____.
A) Barcelona;demand;higher than it is in Montreal
B) Barcelona;supply;lower than it is in Montreal
C) Montreal;demand;higher than it is in Barcelona
D) Montreal;supply;lower than it is in Barcelona

Accepted Answer

The statement implies that due to Montreal's lack of a good public transportation system, more people will need to rely on their cars, thus creating a higher demand for auto insurance. Therefore, the demand for insurance is higher in Montreal than it is in Barcelona.

Question 3

On any particular day,the probability that it will rain is 25% and that you will be sick is 10%.The probability that both happen on the same day is _____%.
A) 0.25
B) 1
C) 2.5
D) 17.5

Accepted Answer

The probability that both events happen on the same day is found by multiplying the probabilities of each event: 0.25 (rain) * 0.10 (sick) = 0.025 or 2.5%.

Question 4

Which statement is TRUE if the insurance market is efficient?
A) The deductibles eliminate moral hazard.
B) Society as a whole engages in less risky behaviour.
C) It transfers risk from those who most want to get rid of it to those least bothered by the risk.
D) Premiums are always kept to the level of a fair insurance policy.

Accepted Answer

In an efficient insurance market, risk is transferred from those who are risk-averse and want to get rid of it to those who are less bothered by the risk. This is because insurers can pool the risks of many individuals and businesses, which allows them to diversify their portfolios and spread the risk. As a result, premiums will be set at a level that reflects the risk of the policyholder, and deductibles are used to mitigate moral hazard. However, it does not necessarily mean that society as a whole engages in less risky behavior, nor that premiums are always at the level of a fair insurance policy.

Question 5

As the premium for an insurance policy falls,there is an increase in the _____ insurance.
A) demand for
B) supply of
C) quantity demanded of
D) quantity supplied of

Accepted Answer

The answer of As the premium for an insurance policy...

Question 6

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)Use Scenario: Buying Shares.The probability that Geordie will make a gain is _____% if he invests $1 000 in either Apple or Microsoft.The probability that he will make a gain is _____% if he invests $500 apiece in Apple and in Microsoft.
A) 60;60
B) 60;84
C) 76;24
D) 60;36

Accepted Answer

The answer of Use the following to answer questions :
Scenario:...

Question 7

The strategy of reducing or eliminating risks by taking a small share in many independent events or by taking advantage of the predictability associated with large numbers of independent events is known as:
A) floating.
B) specializing.
C) pooling.
D) screening.

Accepted Answer

The strategy described is known as pooling, which involves spreading the risk by taking a small share in many independent events or by taking advantage of the predictability associated with large numbers of independent events. Floating involves transferring risk to another party through insurance or other means, specializing involves focusing on a narrow area of expertise to reduce risk, and screening involves selecting or rejecting potential risks based on certain criteria.

Question 8

Why might the supply curve of insurance policies shift to the right?
A) The wealth of the sellers of insurance increases.
B) Premiums increase.
C) Risk aversion increases.
D) Diversification increases.

Accepted Answer

The answer of Why might the supply curve of insurance...

Question 9

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

Accepted Answer

The answer of An efficient market for risk,such as an...

Question 10

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)Use Scenario: Buying Shares.The probability that Geordie will sustain a loss is _____% if he invests $1 000 in either Apple or Microsoft and _____% if he invests $500 apiece in Apple and in Microsoft.
A) 40;40
B) 40;16
C) 80;20
D) 40;80

Accepted Answer

The answer of Use the following to answer questions :
Scenario:...

Question 11

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)Use Scenario: Diversification.If Morris invests all of his money in the sunglass company,what is his expected gain or loss?
A) a loss of $2 500
B) to break even
C) a gain of $2 500
D) a gain of $10 000

Accepted Answer

If Morris invests all of his money in the sunglass company, his expected gain or loss can be calculated as:
(0.5 * $10,000) + (0.5 * -$5,000) = $2,500 - $2,500 = $0
Therefore, he is expected to break even.
The best choice for Morris would be to diversify his investment and invest $5,000 in each company. This way, regardless of the weather, he will earn a profit of $5,000.

Question 12

Assume that flood insurance premiums are determined in the competitive market.Suppose that devastating floods along the Fraser River have increased the degree of risk aversion among the insurance investors in this market.The _____ insurance shifts _____,leading to a(n)_____ in equilibrium premiums and a(n)_____ in the quantity of insurance bought and sold.
A) supply of;rightward;decrease;increase
B) demand for;leftward;decrease;decrease
C) supply of;leftward;increase;decrease
D) demand for;rightward;increase;increase

Accepted Answer

The increased risk aversion among investors leads to a leftward shift in the supply of insurance, causing an increase in equilibrium premiums and a decrease in the quantity of insurance bought and sold.

Question 13

Which statement describes a principle of the insurance industry?
A) Trade in risk can produce mutual gains.
B) Diversification can increase risk.
C) Deductibles add to the problem of moral hazard.
D) Adverse selection should be used to reduce insurance costs.

Accepted Answer

The principle of trade in risk is based on the idea that insurance companies can accept the risk of a policyholder in exchange for premiums, which ultimately benefits both parties. This principle forms the basis of the entire insurance industry. Option B is incorrect because diversification actually decreases risk by spreading it across multiple assets. Option C is incorrect because deductibles help to reduce moral hazard by making the policyholder more responsible for their own losses. Option D is incorrect because adverse selection actually increases insurance costs by causing insurers to charge higher premiums to cover the higher risk of insuring individuals who are more likely to make a claim.

Question 14

Suppose that the wealth of buyers in the insurance market falls.We would expect insurance premiums to _____ as the _____ curve shifts _____.
A) rise;supply;left
B) fall;supply;right
C) fall;demand;left
D) rise;demand;right

Accepted Answer

The answer of Suppose that the wealth of buyers in...

Question 15

We would consider a tornado and a CEO scandal that hit a construction company on the same day as _____ events.
A) independent
B) dependent
C) premium
D) probable

Accepted Answer

A tornado and a CEO scandal are independent events because they have no causal relationship with each other. They are two separate and unrelated occurrences happening on the same day.

Question 16

Which pair of events is NOT independent?
A) You forget your umbrella;it rains.
B) There is a heat wave;demand for ice increases.
C) You didn't study last night;there is a quiz in your economics class.
D) You don't clean your apartment;you have unexpected company.

Accepted Answer

The answer of Which pair of events is NOT independent?
A)...

Question 17

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) 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.

Accepted Answer

When people who are less sensitive to risk take on some of the risk of those who want to reduce their risk, it creates a market for risk. In this market, people who are willing to accept more risk will purchase from people who are less willing, allowing for risk to be shared and potentially reducing total risk for all parties involved.

Question 18

As the premium for an insurance policy rises,there is a(n)_____ in the _____ insurance.
A) decrease;demand for
B) increase;supply of
C) decrease;quantity demanded of
D) decrease;supply of

Accepted Answer

An increase in the premium for an insurance policy leads to a decrease in the quantity demanded of insurance. This means that as the price of insurance (i.e., premium) increases, consumers are less willing to purchase insurance at the higher price. Therefore, the demand for insurance decreases, leading to a decrease in the quantity demanded of insurance.

Question 19

The funds that an insurance company may have to pay out are known as the:
A) fair premium.
B) capital at risk.
C) total premium.
D) deductible.

Accepted Answer

The funds that an insurance company may have to pay out are known as the capital at risk. This refers to the amount of money the insurance company would have to pay in the event of a claim by a policyholder.

Question 20

If those who are most willing to bear risk end up bearing it,then we say that the insurance market is:
A) experiencing adverse selection.
B) efficient.
C) equitable.
D) showing signs of moral hazard.

Accepted Answer

When those most willing to bear risk end up bearing it, the insurance market is considered efficient because it means that risks are being allocated to those best able or most willing to manage them. This is a fundamental principle of market efficiency, where resources (in this case, risk-bearing capacity) are allocated to those who value them the most.

Quiz 20: Uncertainty, risk, and Private Information

Suppose that the probability of a major theft at a hotel is 1%,while the probability of an earthquake hitting the hotel is 2.3%.The probability that both would occur on the same day is therefore:

Barcelona and Montreal are similar,except Barcelona has a good public transportation system and Montreal does not.Auto insurance will probably be more expensive in ___ since the _ for insurance is ___.

On any particular day,the probability that it will rain is 25% and that you will be sick is 10%.The probability that both happen on the same day is _____%.

Which statement is TRUE if the insurance market is efficient?

As the premium for an insurance policy falls,there is an increase in the _____ insurance.

The strategy of reducing or eliminating risks by taking a small share in many independent events or by taking advantage of the predictability associated with large numbers of independent events is known as:

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

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

Which statement describes a principle of the insurance industry?

Suppose that the wealth of buyers in the insurance market falls.We would expect insurance premiums to ___ as the _ curve shifts ___.

We would consider a tornado and a CEO scandal that hit a construction company on the same day as _____ events.

Which pair of events is NOT independent?

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:

As the premium for an insurance policy rises,there is a(n) _ in the _ insurance.

The funds that an insurance company may have to pay out are known as the:

If those who are most willing to bear risk end up bearing it,then we say that the insurance market is: