Indicate whether the statement is true or false, and justify your answer.In a Rothschild–Stiglitz model separating equilibrium, low-risk consumers of insurance are quantity constrained. They cannot buy as much insurance as they want because the insurance company is worried it will lose money on them.

Indicate whether the statement is true or false, and justify your answer.In a Rothschild–Stiglitz model separating equilibrium, low-risk consumers of insurance are quantity constrained. They cannot buy as much insurance as they want because the insurance company is worried it will lose money on them.

Managerial Economics: A Problem Solving Approach

5th Edition

ISBN:9781337106665

Author:Luke M. Froeb, Brian T. McCann, Michael R. Ward, Mike Shor

Publisher:Luke M. Froeb, Brian T. McCann, Michael R. Ward, Mike Shor

Chapter19: The Problem Of Adverse Selection

Section: Chapter Questions

Problem 7MC

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Indicate whether the statement is true or false, and justify your answer.In a Rothschild–Stiglitz model separating equilibrium, there is a volume discount for insurance purchases – those who choose to buy more insurance pay a lower per-unit price for it.
Indicate whether the statement is true or false, and justify your answer.In the Rothschild–Stiglitz model, an individual who is offered a choice between full insurance and no insurance will always choose full insurance if they are risk-averse.
Indicate whether the statement is true, false, or unclear, and justify your answer.One of the major predictions of the Rothschild–Stiglitz model is a positive correlation between risk and insurance coverage. This has never been observed in practice due to the confounding influence of moral hazard.
Indicate whether the statement is true or false, and justify your answer.In a Rothschild–Stiglitz model with asymmetric information and heterogeneous risk types, the frail population would be worse off if insurance companies were suddenly able to distinguish between the two types of customers, because they could no longer pretend to be healthy.
Indicate whether the statement is true, false, or unclear, and justify your answer.Cawley and Philipson (1999) find that, in life insurance markets, there is a bulk discount (that is, people buying larger policies pay lower per unit prices). They conclude that this finding is inconsistent with the Rothschild–Stiglitz model.
Describe how employers “choose” the optimal length of a strike in a model where there is asymmetric information.
Multiple Choice Adverse selection describes a situation where an individual's demand for insurance is positively correlated with the individual's risk of loss. Adverse selection occurs when someone increases their exposure to risk when insured. This can happen, for example, when a person takes more risks because someone else bears the cost of those risks. The relationship between smoking status and mortality provides a good illustration for adverse selection, especially in the case in which a life insurance company did not vary its premiums according to smoking status of its customers. To counter the effects of adverse selection, insurers may offer premiums that are proportional to a customer's risk.
Suppose that left-handed people are more prone to injury than right-handed people. Lefties have an 80 percent chance of suffering an injury leading to a $1,000 loss (in terms of medical expenses and the monetary equivalent of pain and suffering) but righties have only a 20 percent chance of suffering such an injury. The population contains equal numbers of lefties and righties. Individuals all have logarithmic utility-of-wealth functions and initial wealth of $10,000. Assume perfectly competitive insurance market and find (i) the first best and (ii) the second-best contracts.
Which of the following statements is FALSE regarding the concept of "adverse selection"? Multiple Choice Adverse selection describes a situation where an individual's demand for insurance is positively correlated with the individual's risk of loss. Adverse selection occurs when someone increases their exposure to risk when insured. This can happen, for example, when a person takes more risks because someone else bears the cost of those risks. The relationship between smoking status and mortality provides a good illustration for adverse selection, especially in the case in which a life insurance company did not vary its premiums according to smoking status of its customers. To counter the effects of adverse selection, insurers may offer premiums that are proportional to a customer's risk.
One major premise of the Rothschild-Stiglitz (RS) model is that there is a perfectly competitive market for health insurance. Suppose instead that the market is not perfectly competitive, and in fact competitor ﬁrms have a hard time entering the market. Could a pooling equilibrium occur in this case? What is it about competition that prevents pooling in the RS model? No formal proof is necessary, but do make your reasoning clear. Evaluate the following statement: competition in health insurance markets is harmful.
Indicate whether the statement is true or false, and justify your answer.In an actuarially fair insurance contract, the insurance premium equals the probability of sickness times the payout amount.
Indicate whether the statement is true or false, and justify your answer.There are no possible utility functions in which a person is indifferent between actuarially fair, full insurance and actuarially fair, partial insurance.