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How does the problem of “adverse selection” affect the ability of insurance to provide the benefit of risk sharing? Explain

  1. The demand /supply model (Chapter 4) assumes “perfect competition” and concludes that the market allocates resources optimally. In Chapter 2 Mankiw states that almost all economists agree on the benefits of free trade. Would it be valid for economists to draw this conclusion based on the market model?

 

  1. Under the gains from trade model, suppose in an 8 hour day Fred and Barney can collect coconuts and catch fish as follow:

Fred                                                                                              Barney

Fish                                 Coconuts                                                Fish                              Coconuts

24                                         0                                                      40                                         0

18                                         6                                                      30                                         4

12                                       12             without trade                        20                                        8            without trade

6                                       18                                                      10                                       12

0                                       24                                                        0                                       16

Please answer each of the following (not multiple choice):

  1. Does either have an absolute advantage in both fish and nuts?
  2. Who has a comparative advantage in fish? Demonstrate how you determine this.
  3. Given the above outcome without trade, what are the gains with specialization and trade? Demonstrate this.
  4. Explain why this is an important principle?
  5. Does the comparative advantage model explain most of international trade?

 

  1. “The idea of insurance is to share the risks of bad outcomes. You don’t know whether your house is going to burn down next year, and neither does the insurance company. But the company knows the odds, and with enough customers the odds turn into a certainty that some percentage will suffer a fire.”

Two important features of the Patient Protection and Affordable Care Act state exchanges and employer group policies are: “guaranteed issue” and “community rating”. The first means that insurance companies are required to sell insurance to anyone who wants it, and the second means that they have to charge everyone the same price (with a few specific exceptions, like designated higher rates based on age) . Answer eaccch   of the following(not multiple choice):

  1. Why do people buy insurance?
  2. How does the problem of “adverse selection” affect the ability of insurance to provide the benefit of risk sharing?
  3. How does “moral hazard” affect insurance?
  4. If the group or state health insurance exchange included healthy and unhealthy individuals, when would the healthy individuals have an incentive to leave the group?
  5. Suppose health insurance company policies did not require guaranteed issue, what would be the result?
  6. Suppose community rating was not required what would be the result?

 

  1. Why do economists include only final goods in measuring GDP for a particular year?
  2. Explain if and where each of the following items is included in the calculation of GDP:

o   value of stocks and bonds sold

o   the value of used furniture bought and sold

o   Increases in business inventories.

o   Fees earned by real estate agents on selling existing homes.

o   Social Security checks written by the government.

o   Building of a new dam by the Army Corps of Engineers.

o   Interest that your parents pay on the mortgage they have on their house.

o   Purchases of foreign-made trucks by American  residents

Year

Price of

Hot Dogs

Quantity of

Hot Dogs

Price of Hamburgers Quantity of Hamburgers
2009 $1 100 $4 50
2010 $2 200 $5 100
2011 $3 300 $6 150

 

  1. Use the data above and 2009 as the base year for prices and quantities.
  2. Calculate the CPI index for 2009, 2010 and 2011.
  3. Calculate the inflation rate for 2010 and 2011.

 

  1. For a closed economy, explain why savings must equal Investment under GDP (NIPA) accounting. Savings also equals investment under loanable fund  theory. What are the differences in this equality under GDP accounting and loanable fund theory?

 

  1. Assume two countries both have GDP of $100, and Country A has a growth rate of 2% while Country B’s is 7%. How long will it take A and B to grow GDP to $200?
  2. Assume John has an income of $10000 annually that increases by 2% per year. Jane has an income of $5000 per year which increases by 7% per year. How many years will it John’s and Jane’s income to grow to $20000 if the growth rates continue?

 

 

  1. Upon retirement your company offers you a choice of an annuity of $30,000 for 15 years or a lump sum of $250,000 now. Which should you choose if the discount rate is 4%?

 

 

  1. In a closed economy Y=C+I+G, and taxes T, what is (1) public savings, (2) private savings, (3) total savings

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