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by: Eunice

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# PAM 2000, Week 13 Notes PAM 2000

Marketplace > Cornell University > Political Science > PAM 2000 > PAM 2000 Week 13 Notes
Eunice
Cornell

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Risk Neutrality Risk and Insurance (EV, EL, RP, CE, etc)
COURSE
Intermediate Microeconomics
PROF.
McDermott, E
TYPE
Class Notes
PAGES
2
WORDS
CONCEPTS
PAM, Microeconomic
KARMA
25 ?

## Popular in Political Science

This 2 page Class Notes was uploaded by Eunice on Sunday May 1, 2016. The Class Notes belongs to PAM 2000 at Cornell University taught by McDermott, E in Fall 2015. Since its upload, it has received 9 views. For similar materials see Intermediate Microeconomics in Political Science at Cornell University.

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Date Created: 05/01/16
PAM 2000 McDermott Spring 2016 April 26, 2016  Risk premium: the amount that a risk-averse person would pay to avoid taking a risk  Risk neutrality: o a risk-neutral person has constant marginal utility of wealth  each extra dollar of wealth raises utility by the same amount as the previous dollar  utility curve is a straight line in a utility-wealth graph  person will choose the option with the highest expected value, because maximizing expected value maximizes utility  Risk and Insurance: o Expected Value – Risk Premium = Certainty Equivalent o certainty equivalent: the certain value that gives the consumer just as much utility as the gamble o Expected Loss + Risk Premium = maximum the consumer is willing to pay for the insurance policy o o expected utility = u(income) = 2(income)  = (certainty equivalent)  o u(yc) = expected value (EV) o y = certainty equivalent c o EV – y1= risk premium (RP)  option price: compensating variation in income for a policy under certainty  y1 = 100, y2 = 16, 50% for each o EU (expected utility)  7 o CE (certainty equivalent)  100-51=49 o max willing to pay for insurance  51 o EL (expected loss)  42 = (84/2) o RP (risk premium  51-42 = 9 o exp profit  9 April 28: Prelim 2

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