Question

Lamby’s preferences between consumption across the states of the world "S" and "H" are given by: (. , / ) = m{. , / } with Π = Po() = 0.8. Without insurance, Lamby can spend $400 on food if it’s sunny but only $75 if there’s a hurricane. Food costs one dollar per kg. (i) (15) Suppose Lamby can purchase flood insurance for a premium of 40 cents for each dollar of promised benefit. • What will he pay

Answer 1

To calculate the cost of flood insurance, multiply the premium rate by the promised benefit. In this case, the promised benefit is the difference between the amount Lamby can spend without insurance and the amount Lamby can spend with insurance. Lamby will pay 40% of the promised benefit for flood insurance.

Step-by-step explanation:

To calculate the cost of flood insurance, we need to multiply the premium rate (40 cents) by the promised benefit. In this case, the promised benefit is the difference between the amount Lamby can spend without insurance and the amount Lamby can spend with insurance. Without insurance, Lamby can spend $400 on food if it's sunny, so the promised benefit is $400 - $75 = $325. Therefore, Lamby will pay 40% of $325, which is $130 for flood insurance.