Problem
Assume an individual has income of $50,000, and has a 20% chance of incurring a $15,000 loss due to an adverse medical event. His utility function is represented by: U = C1/2.
1. Assuming it is impossible to purchase insurance, compute this individual's expected utility.
2. If this person could purchase actuarially fair insurance that would cover the full medical loss, what premium would be charged for such insurance?
3. What would be his expected utility if he purchased full insurance against this medical loss?
4. If the person could either (i) not purchase insurance, or (ii) purchase insurance to cover the full $15,000 loss at a premium of $4,000, what would he do?