13) An insurance company has been asked to insure a house worth $100,000. There

Question

13) An insurance company has been asked to insure a house worth $100,000. There is a 20% probability that the house may burn down in a fire. What is the actuarially fair total premium to insure the house with a $10,000 deductible? a) $18,000 b) $0.18 c) $0.2 d) $20,000

Now suppose you are the homeowner with a utility function of U= x, where x is your net wealth. What is the maximum amount of premium will you be willing to pay to protect your $100,000 house assuming you have an annual income of $80,000 with no deductible? a) $25,777 b) $.2577 c) $23,200 d) $.232

Explanation / Answer

Ans 13 The answer is option a i.e $18,000.

As if from $100,000, the deductable amount is $10,000 so remaining would be $90,000 and on it there is prob. of 20%. So, 20 % of $90,000 is $18,000.

The maximum amount that we pay is option c i.e. $23,200 as in $80,000 there is no deductable that means from this it deduct some amount and finally the answer would be around $23,200.

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