Question: AP1. [19 points total] Insurance plan death spiral. A large employer provides insurance to employees and charges them any premium it chooses. However, the employer

 AP1. [19 points total] Insurance plan death spiral. A large employerprovides insurance to employees and charges them any premium it chooses. However,
the employer must try to cover the expected medical expenditures of thosewho it insures. The employer offers one insurance contract to all employees,

AP1. [19 points total] Insurance plan death spiral. A large employer provides insurance to employees and charges them any premium it chooses. However, the employer must try to cover the expected medical expenditures of those who it insures. The employer offers one insurance contract to all employees, and charges them an initial premium at time T = 1 equal to P = 10. After T = 1, for all subsequent periods the employer charges employees a premium that equals the average cost of the people who buy insurance in the previous year. Think about the graphical framework for adverse selection we studied in Class 6. Assume that consumer demand is characterized by: P = 25 0.8 Q and assume that marginal and average cost are characterized by: MC = 25 1.2 Q AC = 25 0.6 Q Suppose that there are 20 consumers, and that demand exceeds marginal cost there, so that: Qmax = 20 (If you like, imagine Q indexing thousands of consumers.) d) [2 points] Assume that after T = 5, the employer realizes that adverse selection is creating a death spiral for the plan and decides to mandate that all employees buy insurance. However, its mandate is only partially effective, so that the top 90% of people in terms of value of insurance actually buy, and the bottom 10% in terms of value nd a way to avoid the mandate (despite the fact that their social value from insurance is positive). What is the welfare impact of the mandate moving from T = 5 to T = 6? Report a number as well as a sign

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