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Suppose you are a risk-averse agent with utility function U(W) = -W-2. Suppose that your wealth is $500,000. You buy a $300,000 house and invest
Suppose you are a risk-averse agent with utility function U(W) = -W-2. Suppose that your wealth is $500,000. You buy a $300,000 house and invest the remainder in a risk-free asset paying an annual interest rate of 5%. There is a probability of 0.10 that your house will burn to the ground and its value will be reduced to zero. Assume that if the house does not burn down, its end- of-year value still will be $300,000. You have the opportunity to purchase fire insurance that would fully insure the house against fire damage. 7. What is your certainty equivalent wealth for expected utility of end-of-year wealth without insurance
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