An individual has an initial wealth of 35,000 and might incur a ...

[sammy]

An individual has an initial wealth of 35,000 and might incur a loss of 10,000 with probability p. Insurance is available that charges gK to purchase K of coverage.
 
  What value of g will make the insurance actuarially fair? If she is risk averse and insurance is fair, what is the optimal amount of coverage?

Question 2

The above figure shows the market demand curve for telecommunication while driving one's car (time spent on the car phone). The current price is 35 per minute. What is the consumer surplus at the current price?
 
  A) 924.5
  B) 1075
  C) 301
  D) 1250

[mistyjohnson]

Answer to Question 1

The insurance company's expected payoff is:
p(gK  K) + (1  p)(gK)
Fair insurance requires:
p(gK  K) + (1  p)(gK)=0
Which means the g = p
If she is risk averse, she will purchase full coverage (K = 10,000 ). Formally, she will choose K to maximize her expected utility:
EU = pU(25,000 + (1  p)K) + (1  p)U(35,000  pK)
The Necessary Condition for Maximum is:
U'(25000 + (1 - p)K) = U'(35,000  pK)
which requires that:
25000 + (1  p)K = 35000  pK.
Solving yields K = 10,000.
For this to be a maximum (not a minimum), the expected utility function must be concave, which is assured from the fact that the utility function is concave (risk averse).

Answer to Question 2

A