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Sparkyland is a small town consisting of 1,000 households with identical preferences, cach owning a house with a market value of $50,000. Research shows that each house has a 2% chance of getting bumt down. (a) What is the expected loss each household faces? S_ (b) What is the expected loss for the community as a whole? S_ Suppose fire insurance is not available. Households in Sparkyland can now purchase a high-tech device to completely prevent fires in each house. At a price of S1,100 for this device, all households in Sparkyland purchase it. (9) Are Sparkylanders risk averse, risk neutral or risk lovers? Now assume that fire insurance is available and that the only cost of a fire is loosing the value of the house. (d) What would be the actuarially fair risk premium an insurance company would charge to each household? The insurance company decides to charge $1.050 for their full fire insurance policy. (e) Would all households in Sparkyland purchase fire insurance at this price? (1) What is the expected profit of the insurance company? S_ In the first year after fire insurance became available. 40 houses burnt down (assume the value of each house did not change and that meteorological conditions during that year were normal) (g) What is the profit of the insurance company? S_ (h) Explain why actual profits are different from the expected profits of the insurance company. In economics, this problem is known as (Circle One) adverse selection, moral hazard, negative extemalities