A firm owns two buildings which have the same value (W = 40 for each building)andwhichare...

 

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A firm owns two buildings which have the same value (W₁ = 40 for each building)andwhichare subjectedtoariskoffulllosswithidenticalprobability 1. Because these buildings are located far away from each other the risks are independent. 4 The risk manager has a budget of 8 to spend on insurance premia in order to cover the risks. (a) If he covers the first building at a coinsurance rate ß₁ = 0.6, which coinsurance rate will he obtain for building 2? (b) What is the coinsurance rate identical for each building (i.e. ß= ₁ = B₂) that yields the same premium ? (c) Show that whatever the total budget available--a risk averter should always select ₁ = ₂.As usual, the proof is done by drawing the cumu- lative distributions of final wealth.This result illustrates the intuitive idea that one should "never gamble with one's insurance budget." A firm owns two buildings which have the same value (W₁ = 40 for each building)andwhichare subjectedtoariskoffulllosswithidenticalprobability 1. Because these buildings are located far away from each other the risks are independent. 4 The risk manager has a budget of 8 to spend on insurance premia in order to cover the risks. (a) If he covers the first building at a coinsurance rate ß₁ = 0.6, which coinsurance rate will he obtain for building 2? (b) What is the coinsurance rate identical for each building (i.e. ß= ₁ = B₂) that yields the same premium ? (c) Show that whatever the total budget available--a risk averter should always select ₁ = ₂.As usual, the proof is done by drawing the cumu- lative distributions of final wealth.This result illustrates the intuitive idea that one should "never gamble with one's insurance budget."

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a If the risk manager covers the first building at a coinsurance rate 06 we can calculate the coinsurance ... View the full answer