Question
Suppose you currently have $210,000 invested in liquid assets and you want to purchase a home insurance policy to cover (potential) property damage. There is
Suppose you currently have $210,000 invested in liquid assets and you want to purchase a home insurance policy to cover (potential) property damage. There is 10% probability of experiencing a $2,000 damage, 0.95% probability of experiencing a $15,000 damage, and 0.05% probability of experiencing a $200,000 damage.
Part A) If you are risk-neutral, what is the maximum insurance premium you are willing to pay (reservation price) for a plan that covers all losses with no deductible?
Part B) If you are risk averse and have a power utility function (i.e., () = 11) with = 1, 1 what is the maximum insurance premium you are willing to pay (reservation price) for a plan that covers all losses with no deductible?
Part C) If the insurance broker gives you an offer to pay $100 as insurance premium but having $3,000 deductible, would you accept the offer having the utility function as Part B? Why?
Step by Step Solution
There are 3 Steps involved in it
Step: 1
Get Instant Access to Expert-Tailored Solutions
See step-by-step solutions with expert insights and AI powered tools for academic success
Step: 2
Step: 3
Ace Your Homework with AI
Get the answers you need in no time with our AI-driven, step-by-step assistance
Get Started