1. You produce children's toys and are shopping for product liability insurance. You have conducted very thorough engineering and lab tests of your toys and have calculated hazard rates from toy breakage,incidentsfromhowchildreninteractwiththem,etc.Youhavedeterminedthatthereisa 0.02% chance of a "major" incident occurring with one of your toys in the next year, defined as an incident resulting in $1m in damages.
2. Basedonthesefacts,whatisthepremiumyouexpecttopayforactuarilyfairinsurance? (1 point)
3. Aftershoppingaround,youareofferedafewpremiumsthatarehigherthanyouexpect.

Insurersdefine"major"eventsthesamewaybutdisagreeontheprobabilityofoneofyour

toyscausingamajoreventinthenextyear.(Theyclaimthisprobabilityis higher.)

1. Whymightprospectiveinsurersassumeahigherprobabilityofamajorevent?(1 point)
2. Whatcanyoudototrytoresolvethedifferenceinunderstandingofthis probability? List and describe two. (4 points)
3. If instead prospective insurers cite the same definition of a "major" event and the probabilityofitoccurringinthe nextyear,whymighttheybe askingforpremiumshigher thantheactuarilyfairrate(asidefrommarketpower)?Whatisasolutiontothisissue?(2 points)