Assume that precaution is of a discrete/binary form ( i.e. , 0 or 1). An accident, should
Question:
Assume that precaution is of a discrete/binary form (i.e., "0" or "1"). An accident, should it occur, would result in $80,000 of harm to a (potential) victim. The probability of the accident is 0.006 (= 6/1000) if no party takes precaution. The (potential) victim can reduce this probability to 0.004 (assuming the injurer does not take precaution) by spending $100 on precaution. The (potential) injurer can reduce the probability to 0.003 (assuming the victim does not take precaution) by spending $150 on precaution. If both parties take precaution, the probability of an accident falls to 0.001.
Question: Please draw a graph showing (in the general context of unilateral precaution) the schedules wkxk (private expenditures on precaution); p(xk)A (expected cost of accidents); and C(xk; w, A) (expected total/social costs of accidents) where k indexes a given party to a tort. Show the optimal level of precaution pertaining to agent k assuming it is assigned tort liability. Then, on this same graph, show the effects of on (exogenous) increase in wk on the agent's chosen level of precaution. Comment on this result.