Question 1

Suppose Jack and Kate are at the town fair and are choosing which game to play.The first game has a bag with four marbles in it-1 red marble and 3 blue ones.The player draws one marble from the bag;if it is red,they win $20 and if it is blue,they win $1.The second game has a bag with 10 marbles in it-1 red,4 blue,and 5 green.The player draws one marble from the bag;if it is red,they win $20;if it is blue,they win $5;and if it is green,they win $1.Both games cost $5 to play.Kate decides to play the second game.Kate's expected value of payoff is:

Accepted Answer

A)  $5.00.
B)  $5.75.
C)  $4.50.
D)  $4.00.E) A) and B)
F) All of the above

Question 2

Risk is:

Accepted Answer

A)  when the costs or benefits of an event or choice are uncertain.
B)  why the changing value of money is such a challenge.
C)  to always be avoided,at any cost.
D)  None of these statements is true.E) A) and D)
F) B) and D)

Question 3

A mechanism for reallocating risk is:

Accepted Answer

A)  risk premiums.
B)  dividend pooling.
C)  diversification.
D)  All of these are mechanisms for reallocating risk.E) B) and C)
F) A) and B)

Question 4

If insurance companies knew how risk-adverse their customers were:

Accepted Answer

A)  averse selection would not occur.
B)  diversification would not occur.
C)  policies would be perfectly diversified,resulting in lower premiums for everyone.
D)  risk pooling would not occur.E) A) and B)
F) C) and D)

Question 5

Suppose Jack and Kate are at the town fair and are choosing which game to play.The first game has a bag with four marbles in it-1 red marble and 3 blue ones.The player draws one marble from the bag;if it is red,they win $20 and if it is blue,they win $1.The second game has a bag with 10 marbles in it-1 red,4 blue,and 5 green.The player draws one marble from the bag;if it is red,they win $20;if it is blue,they win $5;and if it is green,they win $1.Both games cost $5 to play.What is the probability of drawing a blue marble in the first game?

Accepted Answer

A)  25 percent
B)  20 percent
C)  50 percent
D)  75 percentE) A) and B)
F) None of the above

Question 6

Risk-seeking behavior:

Accepted Answer

A)  is irrational.
B)  is an aspect of an individual's preferences.
C)  is the same for everyone.
D)  All of these statements are true.E) None of the above
F) B) and C)

Question 7

In general,the amount people pay for insurance is:

Accepted Answer

A)  higher than its expected value.
B)  lower than its expected value.
C)  higher than its future value.
D)  lower than its present value.E) B) and C)
F) A) and C)

Question 8

Because the value of money changes over time:

Accepted Answer

A)  it is difficult to make a decision weighing uncertain costs and benefits.
B)  it is difficult to compare current costs with future ones.
C)  we need to use interest rates to make accurate comparisons.
D)  All of these statements are true.E) B) and D)
F) All of the above

Question 9

The amount of interest owed on a loan of $100,000 after a year at an interest rate of 3 percent is:

Accepted Answer

A)  $3,000.
B)  $30,000.
C)  $103,000.
D)  $100,300.E) B) and C)
F) None of the above

Question 10

John is trying to decide whether to expand his business or not.If he continues his business as it is,with no expansion,there is a 50 percent chance he will earn $100,000 and a 50 percent chance he will earn $300,000.If he does expand,there is a 30 percent chance he will earn $100,000,a 30 percent chance he will earn $300,000 and a 40 percent chance he will earn $500,000.It will cost him $150,000 to expand.The expected value of John's earnings if he chooses to expand is:

Accepted Answer

A)  $320,000
B)  $230,000
C)  $900,000
D)  $140,000E) A) and B)
F) None of the above

Question 11

Diversification:

Accepted Answer

A)  reduces the likelihood that bad things will happen.
B)  means you're not likely going to be completely ruined by a single unfortunate event.
C)  increases the likelihood that bad things will happen.
D)  None of these statements is true.E) B) and D)
F) C) and D) B

Question 12

Suppose Jack and Kate are at the town fair and are choosing which game to play.The first game has a bag with four marbles in it-1 red marble and 3 blue ones.The player draws one marble from the bag;if it is red,they win $20 and if it is blue,they win $1.The second game has a bag with 10 marbles in it-1 red,4 blue,and 5 green.The player draws one marble from the bag;if it is red,they win $20;if it is blue,they win $5;and if it is green,they win $1.Both games cost $5 to play.Kate decides to play the second game.Her probability of pulling out a green marble is:

Accepted Answer

A)  10 percent.
B)  40 percent.
C)  50 percent.
D)  75 percent.E) B) and C)
F) C) and D)

Question 13

In making decisions about insurance:

Accepted Answer

A)  using hindsight is the only way to truly know what the right decision was.
B)  you must consider it in light of the best information available at the time.
C)  you need to weigh the cost of the insurance against the benefit of payouts over the life of the contract.
D)  None of these statements is true.E) B) and D)
F) A) and B)

Question 14

In the context of insurance,everyone typically has to pay a higher premium because of:

Accepted Answer

A)  risk pooling.
B)  diversification.
C)  risk aversion.
D)  adverse selection.E) All of the above
F) A) and B) D

Question 15

John is trying to decide whether to expand his business or not.If he continues his business as it is,with no expansion,there is a 50 percent chance he will earn $100,000 and a 50 percent chance he will earn $300,000.If he does expand,there is a 30 percent chance he will earn $100,000,a 30 percent chance he will earn $300,000 and a 40 percent chance he will earn $500,000.It will cost him $150,000 to expand.John should:

Accepted Answer

A)  expand,since he expects to earn $320,000 by expanding,and it will only cost him $150,000 to do so.
B)  not expand,because there is a chance John will earn the same as if he didn't expand and would be out the $150,000 investment.
C)  not expand,since he expects to earn $120,000 more by expanding than not,and it will cost him $150,000 to do so.
D)  expand,since he has a 70 percent chance of earning more than the cost of expansion.E) B) and C)
F) A) and B) C

Question 16

It is difficult when you make decisions that require you to weigh uncertain future costs and benefits because:

Accepted Answer

A)  you can't directly compare costs and benefits that show up now with those that show up in the future.
B)  the value of money changes over time.
C)  the future is uncertain.
D)  All of these make it difficult.E) All of the above
F) A) and B)

Question 17

Risk diversification refers to the process by which:

Accepted Answer

A)  risks are shared across many different assets or people,reducing the impact of any particular risk on any one individual.
B)  people organize themselves in a group to collectively absorb the cost of the risk faced by each individual.
C)  insurance companies change the risk aversion of their clients.
D)  insurance companies reallocate the likelihood of catastrophes happening.E) A) and B)
F) A) and C)

Question 18

John is trying to decide whether to expand his business or not.If he continues his business as it is,with no expansion,there is a 50 percent chance he will earn $100,000 and a 50 percent chance he will earn $300,000.If he does expand,there is a 30 percent chance he will earn $100,000,a 30 percent chance he will earn $300,000 and a 40 percent chance he will earn $500,000.It will cost him $150,000 to expand.The difference in expected earnings if John chooses to expand versus not expand is:

Accepted Answer

A)  $120,000.
B)  $320,000.
C)  $200,000.
D)  $150,000.E) A) and B)
F) A) and C)

Question 19

The two big problems facing insurance companies in trying to manage risk are:

Accepted Answer

A)  risk pooling and diversification.
B)  risk pooling and adverse selection.
C)  adverse selection and moral hazard.
D)  moral hazard and diversification.E) None of the above
F) All of the above

Question 20

The value of a loan of $100,000 after a year at 5 percent interest is:

Accepted Answer

A)  $5,000.
B)  $95,000.
C)  $105,000.
D)  None of these is true.E) C) and D)
F) B) and C)

Exam 11: Time and Uncertainty

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Risk is:

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A mechanism for reallocating risk is:

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If insurance companies knew how risk-adverse their customers were:

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Risk-seeking behavior:

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In general,the amount people pay for insurance is:

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Because the value of money changes over time:

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The amount of interest owed on a loan of $100,000 after a year at an interest rate of 3 percent is:

Correct Answer
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Diversification:

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B

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In making decisions about insurance:

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In the context of insurance,everyone typically has to pay a higher premium because of:

Correct Answer
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D

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C

It is difficult when you make decisions that require you to weigh uncertain future costs and benefits because:

Correct Answer
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Risk diversification refers to the process by which:

Correct Answer
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Correct Answer
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The two big problems facing insurance companies in trying to manage risk are:

Correct Answer
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The value of a loan of $100,000 after a year at 5 percent interest is:

Correct Answer
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Exam 11: Time and Uncertainty

Correct AnswerverifiedShow Answer

Risk is:

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A mechanism for reallocating risk is:

Correct AnswerverifiedShow Answer

If insurance companies knew how risk-adverse their customers were:

Correct AnswerverifiedShow Answer

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Risk-seeking behavior:

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In general,the amount people pay for insurance is:

Correct AnswerverifiedShow Answer

Because the value of money changes over time:

Correct AnswerverifiedShow Answer

The amount of interest owed on a loan of $100,000 after a year at an interest rate of 3 percent is:

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Diversification:

Correct AnswerverifiedB

Correct AnswerverifiedShow Answer

In making decisions about insurance:

Correct AnswerverifiedShow Answer

In the context of insurance,everyone typically has to pay a higher premium because of:

Correct AnswerverifiedD

Correct AnswerverifiedC

It is difficult when you make decisions that require you to weigh uncertain future costs and benefits because:

Correct AnswerverifiedShow Answer

Risk diversification refers to the process by which:

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

The two big problems facing insurance companies in trying to manage risk are:

Correct AnswerverifiedShow Answer

The value of a loan of $100,000 after a year at 5 percent interest is:

Correct AnswerverifiedShow Answer

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B

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D

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C

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