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A person with the following utility function, u(x) 100000(1 -e rOo) faces a world where with probability 0.2 they will lose their job and their income becomes 50000 (a charitable donation by their parents) while with probability 0.8 they remain in their job where their wage is $250000. This means that we can write: Elu()=0.2 (100000(1 -e Too) +0.8 ( 100000(1 - e T 100000 where r would be the income under unemployment and y the income under employment. This means that the marginal utilities are: MU 0.2e T0000, MUy 0.8e T000 Using this information answer the following questions 1) What is this persons attitude towards risk? explain your answer? 2) What is the certainty equivalent and risk premium? find your answer algebraically and use a graph to represent them. 1 3) What is the optimal purchase of insurance if the person faces an insurance premium of 25%? 4) What is the optimal purchase of insurance if the person faces an insurance premium of 20%?
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