In 2008, 1 in approximately every 270 cars in the United States was stolen. Beth owns a car worth $20,000 and is considering purchasing an insurance policy to protect herself from car theft. For the following questions, assume that the chance of car theft is the same in all regions and across all car models.
a. What should the premium for a fair insurance policy have been in 2008 for a policy that replaces Beth's car if it is stolen?
b. Suppose an insurance company charges 0.6% of the car's value for a policy that pays for replacing a stolen car. How much will the policy cost Beth?
c. Will Beth purchase the insurance in part b if she is risk-neutral?
d. Discuss a possible moral hazard problem facing Beth's insurance company if she purchases the insurance.