(12 points) Consider an insurance market with two types of individuals, high-risk (H) and low-risk (L), and two possible states of the world, good (G) and bad (B). High-risk people have a 50% probability of the bad state, and low-risk people have a 25% probability of the bad state. Both types of individuals are risk-neutral, and have $100 in income in either state of the world. Both types of individuals have to pay a penalty of $80 in the bad state. Insurance is priced at an actuarially fair price. D'Question 4 6 pts a. (6 points) Suppose an insurance firm can tell the difference between the types. Therefore, the insurance firm can quote a price per dollar of insurance to each individual that is actuarially fair given their type, and each individual can then choose any amount of insurance coverage they want conditional on their quoted price, Upload a graph of the "budget constraints and show each type's optimal bundle using a representative indifference curve. Be sure to label all intercepts and key points. Question 5 6 pts b. (6 points) Now suppose the firm cannot tell the difference between the individuals, so they decide to offer insurance packages.consisting of an actuarially fair price per dollar of insurance and a pre determined insurance level b (instead of allowing each individual to choose the amount of insurance coverage they want). Upload a graph of a separating equilibrium where the firm offers two distinct insurance packages: one that fully insures high-risk people at an actuarially fair price for them, and one that less-than-fully insures low-risk people at an actuarially fair price for them. Be sure to label all intercepts and key points. Upload Choose a File (12 points) Consider an insurance market with two types of individuals, high-risk (H) and low-risk (L), and two possible states of the world, good (G) and bad (B). High-risk people have a 50% probability of the bad state, and low-risk people have a 25% probability of the bad state. Both types of individuals are risk-neutral, and have $100 in income in either state of the world. Both types of individuals have to pay a penalty of $80 in the bad state. Insurance is priced at an actuarially fair price. D'Question 4 6 pts a. (6 points) Suppose an insurance firm can tell the difference between the types. Therefore, the insurance firm can quote a price per dollar of insurance to each individual that is actuarially fair given their type, and each individual can then choose any amount of insurance coverage they want conditional on their quoted price, Upload a graph of the "budget constraints and show each type's optimal bundle using a representative indifference curve. Be sure to label all intercepts and key points. Question 5 6 pts b. (6 points) Now suppose the firm cannot tell the difference between the individuals, so they decide to offer insurance packages.consisting of an actuarially fair price per dollar of insurance and a pre determined insurance level b (instead of allowing each individual to choose the amount of insurance coverage they want). Upload a graph of a separating equilibrium where the firm offers two distinct insurance packages: one that fully insures high-risk people at an actuarially fair price for them, and one that less-than-fully insures low-risk people at an actuarially fair price for them. Be sure to label all intercepts and key points. Upload Choose a File
