nicholson微观经济理论（答案+ppt+习题库）-90-03-033593-0

THEECONOMICSOFINFORMATIONINFORMATIONISAVALUABLEECONOMICRESOURCEPEOPLEWHOKNOWWHERETOBUYHIGHQUALITYGOODSCHEAPLYCANMAKETHEIRBUDGETSSTRETCHFURTHERTHANTHOSEWHODONTFARMERSWITHACCESSTOBETTERWEATHERFORECASTINGMAYBEABLETOAVOIDCOSTLYMISTAKESANDGOVERNMENTENVIRONMENTALREGULATIONCANBEMOREEFCIENTIFITISBASEDONGOODSCIENTICKNOWLEDGEALTHOUGHTHESEOBSERVATIONSABOUTTHEVALUEOFINFORMATIONHAVELONGBEENRECOGNIZED,FORMALECONOMICMODELINGOFINFORMATIONACQUISITIONANDITSIMPLICATIONSFORRESOURCEALLOCATIONISFAIRLYRECENT1DESPITEITSLATESTART,THESTUDYOFINFORMATIONECONOMICSHASBECOMEONEOFTHEMAJORAREASINCURRENTRESEARCHINTHISCHAPTERWEBRIEYSURVEYSOMEOFTHEPRINCIPALISSUESRAISEDBYTHISRESEARCHWEWILLRETURNTOTHEOBSERVATIONSMADEHEREATSEVERALPLACESLATERINTHISBOOK9CHAPTER1THEFORMALMODELINGOFINFORMATIONISSOMETIMESDATEDFROMTHEPATHBREAKINGARTICLEBYGJSTIGLER,“THEECONOMICSOFINFORMATION,”JOURNALOFPOLITICALECONOMYJUNE1961213225PROPERTIESOFINFORMATIONONEDIFCULTYENCOUNTEREDBYECONOMISTSWHOWISHTOSTUDYTHEECONOMICSOFINFORMATIONISTHAT“INFORMATION”ITSELFISNOTEASYTODENEUNLIKETHEECONOMICGOODSWEHAVEBEENSTUDYINGSOFAR,THE“QUANTITY”OFINFORMATIONOBTAINABLEFROMVARIOUSACTIONSISNOTWELLDENED,ANDWHATINFORMATIONISOBTAINEDISNOTHOMOGENEOUSAMONGITSUSERSTHEFORMSOFECONOMICALLYUSEFULINFORMATIONARESIMPLYTOOVARIEDTOPERMITTHEKINDSOFPRICEQUANTITYCHARACTERIZATIONSWEHAVEBEENUSINGFORBASICCONSUMERGOODSINSTEAD,ECONOMISTSWHOWISHTOSTUDYINFORMATIONMUSTTAKESOMECARETOSPECIFYWHATTHEINFORMATIONALENVIRONMENTISINAPARTICULARDECISIONPROBLEMTHISISSOMETIMESCALLEDTHEINFORMATIONSETANDHOWTHATENVIRONMENTMIGHTBECHANGEDTHROUGHINDIVIDUALACTIONSASMIGHTBEEXPECTED,THISAPPROACHHASRESULTEDINAVASTNUMBEROFMODELSOFSPECICSITUATIONSWITHLITTLEOVERALLCOMMONALITYAMONGTHEMASECONDCOMPLICATIONINVOLVEDINTHESTUDYOFINFORMATIONCONCERNSSOMETECHNICALPROPERTIESOFINFORMATIONITSELFMOSTINFORMATIONISDURABLEANDRETAINSVALUEAFTERITHASBEENUSEDUNLIKEAHOTDOG,WHICHISCONSUMEDONLYONCE,KNOWLEDGEOFASPECIALSALECANBEUSEDNOTONLYBYTHEPERSONWHODISCOVERSIT,BUTALSOBYANYFRIENDSWITHWHOMTHEINFORMATIONISSHAREDTHEFRIENDSTHENMAYGAINFROMTHISINFORMATIONEVENTHOUGHTHEYDONTHAVETOSPENDANYTHINGTOOBTAINITINDEED,INASPECIALCASEOFTHISSITUATION,INFORMATIONHASTHECHARACTERISTICOFAPUREPUBLICGOODSEECHAPTER24THATIS,THEINFORMATIONISBOTHNONRIVALINTHATOTHERSMAYUSEITATZEROCOSTANDNONEXCLUSIVEINTHATNOINDIVIDUALCANPREVENTOTHERSFROMUSINGTHEINFORMATIONTHECLASSICEXAMPLEOFTHESEPROPERTIESISANEWSCIENTICDISCOVERYWHENSOMEPREHISTORICPEOPLEINVENTEDTHEWHEEL,OTHERSCOULDUSEITWITHOUTDETRACTINGFROMTHEVALUEOFTHEDISCOVERY,ANDEVERYONEWHOSAWTHEWHEELCOULDCOPYITFREELYTHESETECHNICALPROPERTIESOFINFORMATIONIMPLYTHATMARKETMECHANISMSMAYOFTENOPERATEIMPERFECTLYINALLOCATINGRESOURCESTOINFORMATIONPROVISIONANDACQUISITIONSTANDARDMODELSOFSUPPLYANDDEMANDMAYTHEREFOREBEOFRELATIVELYLIMITEDUSEINUNDERSTANDINGSUCHACTIVITIESATAMINIMUM,MODELSHAVETOBEDEVELOPEDTHATACCURATELYREECTTHEPROPERTIESBEINGASSUMEDABOUTTHEINFORMATIONALENVIRONMENTTHROUGHOUTTHELATTERPORTIONSOFTHISBOOK,WEWILLDESCRIBESOMEOFTHESITUATIONSINWHICHSUCHMODELSARECALLEDFORHERE,HOWEVER,WEWILLPAYRELATIVELYLITTLEATTENTIONTOSUPPLYDEMANDEQUILIBRIAANDWILLINSTEADFOCUSPRIMARILYONINFORMATIONISSUESTHATARISEINTHETHEORYOFINDIVIDUALCHOICETHEVALUEOFINFORMATIONDEVELOPINGMODELSOFINFORMATIONACQUISITIONUSESMANYOFTHESAMECONCEPTSTHATWEINTRODUCEDINCONNECTIONWITHOURSTUDYOFUNCERTAINTYINTHEPREVIOUSCHAPTERINMANYRESPECTSLACKOFINFORMATIONDOESREPRESENTAPROBLEMINVOLVINGUNCERTAINTYFORADECISIONMAKERINTHEABSENCEOFPERFECTINFORMATION,HEORSHEMAYNOTBEABLETOKNOWEXACTLYWHATTHECONSEQUENCESOFAPARTICULARACTIONWILLBEBETTERINFORMATIONCANREDUCETHATUNCERTAINTYANDTHEREFORELEADTOBETTERDECISIONSTHATPROVIDEINCREASEDLEVELSOFUTILITYINFORMATIONANDSUBJECTIVEPOSSIBILITIESTHISRELATIONSHIPBETWEENUNCERTAINTYANDINFORMATIONACQUISITIONCANBEILLUSTRATEDUSINGTHESTATEPREFERENCEAPPROACHWEINTRODUCEDINTHEPREVIOUSCHAPTER226PARTIIICHOICEUNDERUNCERTAINTYTHEREWEASSUMEDTHATANINDIVIDUALFORMSSUBJECTIVEOPINIONSABOUTTHEPROBABILITIESOFTHETWOSTATESOFTHEWORLD,“GOODTIMES”AND“BADTIMES”INTHISMODEL,INFORMATIONISVALUABLEBECAUSEITALLOWSTHEINDIVIDUALTOREVISEHISORHERESTIMATESOFTHESEPROBABILITIESANDTOTAKEADVANTAGEOFTHESEREVISIONSFOREXAMPLE,INFORMATIONTHATFORETOLDTHATTOMORROWWOULDDENITELYBE“GOODTIMES”WOULDCAUSETHISPERSONTOREVISEHISORHERPROBABILITIESTOH9266GH110051,H9266BH110050ANDTOCHANGEHISORHERPURCHASESACCORDINGLYWHENTHEINFORMATIONRECEIVEDISLESSDENITIVE,THEPROBABILITIESMAYBECHANGEDSLIGHTLY,BUTEVENSMALLREVISIONSMAYBEQUITEVALUABLEIFYOUASKSOMEFRIENDSABOUTTHEIREXPERIENCESWITHAFEWBRANDSOFDVDPLAYERSYOUARETHINKINGOFBUYING,YOUMAYNOTWANTTHEIROPINIONSTODICTATEYOURCHOICETHEPRICESOFTHEPLAYERSANDOTHERTYPESOFINFORMATIONSAY,OBTAINEDFROMCONSULTINGCONSUMERREPORTSWILLALSOAFFECTYOURVIEWSULTIMATELY,HOWEVER,YOUMUSTPROCESSALLOFTHESEFACTORSINTOADECISIONTHATREECTSYOURASSESSMENTOFTHEPROBABILITIESOFVARIOUS“STATESOFTHEWORLD”INTHISCASE,THEQUALITYOBTAINEDFROMBUYINGVARIOUSBRANDSAFORMALMODELTOILLUSTRATEHOWTHEQUESTFORINFORMATIONMIGHTBEINTEGRATEDINTOAMODELOFINDIVIDUALCHOICE,SUPPOSETHATINFORMATIONCANBEMEASUREDBYTHENUMBEROF“MESSAGES”M“PURCHASED”SUPPOSEALSOTHEDECISIONMAKERADJUSTSHISORHERSUBJECTIVEPROBABILITIESINRESPONSETOTHESEMESSAGESHENCE,H9266GANDH9266BWILLBEFUNCTIONSOFMTHEINDIVIDUALSGOALNOWISTOMAXIMIZEEXPECTEDUTILITYH11005H9266GUWGH11001H9266BUWB91SUBJECTTOIH11005PGWGH11001PBWBH11001PMM,92WHEREPMISTHEPERUNITCOSTOFINFORMATIONMESSAGESTHATIS,THECOSTOFAMECHANICSTIME,OFAPHONECALLTOGATHERPRICEINFORMATION,ANDSOFORTHNOTICETHATINFORMATIONMESSAGES,PERSE,PROVIDENOUTILITYINTHISMODELTHEIRUTILITYONLYARISESTHROUGHTHEIRABILITYTOCHANGETHISPERSONSDECISIONSONHOWTOALLOCATEWGANDWBSETTINGUPTHELAGRANGIANFORTHISPROBLEM,H5112H11005H9266GUWGH11001H9266BUWBH11001H9261IH11002PGWGH11002PBWBH11002PMM93YIELDSTHEFOLLOWINGRSTORDERCONDITIONSFORACONSTRAINEDMAXIMUMH11005H9266GUH11032WGH11002H9261PGH110050H11005H9266BUH11032WBH11002H9261PBH110050H11005H9266GUH11032WGH11001H9266BUH11032WBH11001UWG94H11001UWBH11002H9261PGH11002H9261PBH11002H9261PMH110050H11005IH11002PGWGH11002PBWBH11002PMMH110050H11128H5112H5007H11128H9261DWBH5007DMDWGH5007DMDH9266BH5007DMDH9266GH5007DMDWBH5007DMDWGH5007DMH11128H5112H5007H11128MH11128H5112H5007H11128WBH11128H5112H5007H11128WGCHAPTER9THEECONOMICSOFINFORMATION227THERSTTWOOFTHESEEQUATIONSSIMPLYRESTATETHEOPTIMALITYRESULTDERIVEDEARLIERATAMAXIMUMTHESUBJECTIVERATIOOFEXPECTEDMARGINALUTILITIESSHOULDEQUALTHEPRICERATIOPG/PBTHETHIRD,COMPLEXEQUATIONREPRESENTSTHEUTILITYMAXIMIZINGCHOICEFORTHEAMOUNTOFINFORMATIONTOBUYINTHISMODEL,ALLOFTHEVALUEOFTHESEMESSAGESCOMESFROMTHEIRABILITYTOCHANGETHESUBJECTIVEPROBABILITIESOFGOODANDBADTIMESIFTHERECEIPTOFINFORMATIONDOESNOTCHANGETHESEPROBABILITIES,THETWOINITIALRSTORDERCONDITIONSWOULDLEAVETHEWEALTHALLOCATIONSUNCHANGEDANDTHEINFORMATIONWOULDHAVENOVALUEWHENNEWINFORMATIONDOESCHANGEPROBABILITIES,THEINDIVIDUALMUSTASSESSHOWMUCHEXTRAUTILITYTHISMAYYIELDTODECIDEHOWMUCHTOINVESTINTHEINFORMATIONITSELFTHETRADEOFFSINVOLVEDINTHISPROCESSARECAPTUREDINTHETHIRDEQUATIONFORTHISMAXIMIZATIONPROCESSOFTENTHEPRINCIPLESOFOPTIMALINFORMATIONACQUISITIONAREMORECLEARLYILLUSTRATEDWITHJUSTAFEWDISCRETEPOSSIBILITIESRATHERTHANWITHTHISSORTOFCONTINUOUSCHOICEMODEL,HOWEVERASIMPLEILLUSTRATIONISPROVIDEDBYTHENEXTEXAMPLEEXAMPLE91THEVALUEOFINFORMATIONONPRICESINOURPREVIOUS,WELLWORNHAMBURGERYSOFTDRINKXEXAMPLES,WEHAVEBEENASSUMINGTHATTHECONSUMERKNOWSTHEPRICESOFEACHOFTHESEITEMSWITHCERTAINTYWECANILLUSTRATETHEECONOMICVALUEOFINFORMATIONNOWBYASSUMINGINSTEADTHATTHE1PRICEFORHAMBURGERSISANAVERAGEFORTWOBURGERJOINTS,ONEOFWHICHCHARGES75ANDTHEOTHER125THECONSUMERWOULDOBVIOUSLYPREFERTOSHOPATTHELESSEXPENSIVESTANDASSUMINGTHEHAMBURGERSBEINGSOLDAREIDENTICAL,BUTDOESNTKNOWWHICHSTANDOFFERSTHELOWERPRICETHECONSUMERCOULDJUSTCHOOSEONEOFTHESTANDSRANDOMLY,ORHEORSHECOULDINVESTINAPHONECALLTONDOUTTHEPRICESHOWMUCHWOULDHEORSHEBEWILLINGTOPAYFORTHISINFORMATIONTOAPPROACHTHISPROBLEM,WEUSETHEINDIRECTUTILITYFUNCTIONTHATINEXAMPLE44WECOMPUTEDASVH110055IPH11002X5PH11002Y5,95WHERE,ASBEFORE,IREPRESENTSINCOMEASSUMEDTOBE2HERE,PXISASSUMEDTOBE25,ANDPYMAYBEEITHER75OR125IFTHECONSUMERCHOOSESWHERETOSHOPRANDOMLYSAY,BYIPPINGACOINEXPECTEDUTILITYWILLBEEXPECTEDUTILITYH110055VPYH1100575H110015VPYH11005125H1100152309H1100151789H11005204996IFTHECONSUMERKNEWWHICHSTOREOFFERSALOWERPRICE,HEORSHEWOULDOBVIOUSLYSHOPTHERE,ANDUTILITYWOULDBEEXPECTEDUTILITYH11005VPYH1100575H11005230997PRICEINFORMATIONABOUTHAMBURGERS,THEREFORE,RAISESUTILITYBOTHBYCHANGINGTHEPROBABILITIESOFTHEEVENTSSHOPPINGATTHECHEAPSTANDNOWBECOMESACERTAINTYANDBYALLOWINGTHECONSUMERTOMAKEAUTILITYMAXIMIZINGDECISIONTHATTAKESADVANTAGEOFTHELOWPRICEACONSUMERWITHANINCOMEOF177H11005200H110802049/2309WHOKNEWWHICHSTANDWASCHEAPERWOULDHAVETHESAMEEXPECTEDUTILITYASACONSUMERWITH200WHOHADTOCHOOSESTANDSRANDOMLYSUCHACONSUMERWOULDTHEREFOREBEWILLINGTOPAYUPTO23FORTHEINFORMATIONTHE228PARTIIICHOICEUNDERUNCERTAINTYINFORMATIONISCLEARLYWORTHTHEPRICEOFALOCALPHONECALLTHOUGHPERHAPSNOTACALLFROMAPAYPHONEINTHEEXTENSIONSTOTHISCHAPTERWEPURSUEFURTHERTHEISSUEOFSEARCHINGFORLOWERPRICESQUERYWHYDOESTHEEXPECTEDUTILITYFORANUNINFORMEDCONSUMERHEREVH110052049EXCEEDTHEEXPECTEDUTILITYFORACONSUMERWHOCANBUYYATTHEAVERAGEPRICE1WITHCERTAINTYVH11005200DOESTHISVIOLATETHEASSUMPTIONOFRISKAVERSIONASYMMETRYOFINFORMATIONONEOBVIOUSIMPLICATIONOFTHESTUDYOFINFORMATIONACQUISITIONISTHATTHELEVELOFINFORMATIONTHATANINDIVIDUALBUYSWILLDEPENDONTHEPERUNITPRICEOFINFORMATIONMESSAGESUNLIKETHEMARKETPRICEFORMOSTGOODSWHICHAREASSUMEDTOBETHESAMEFOREVERYONE,THEREAREMANYREASONSTOBELIEVETHATINFORMATIONCOSTSMAYDIFFERSIGNICANTLYAMONGINDIVIDUALSSOMEINDIVIDUALSMAYPOSSESSSPECICSKILLSRELEVANTTOINFORMATIONACQUISITIONTHEYMAYBETRAINEDMECHANICS,FOREXAMPLEWHEREASOTHERSMAYNOTPOSSESSSUCHSKILLSSOMEINDIVIDUALSMAYHAVEOTHERTYPESOFEXPERIENCESTHATYIELDVALUABLEINFORMATION,WHEREASOTHERSMAYLACKTHATEXPERIENCEFOREXAMPLE,THESELLEROFAPRODUCTWILLUSUALLYKNOWMOREABOUTITSLIMITATIONSTHANWILLABUYER,BECAUSETHESELLERWILLKNOWPRECISELYHOWTHEGOODWASMADEANDWHEREPOSSIBLEPROBLEMSMIGHTARISESIMILARLY,LARGESCALEREPEATBUYERSOFAGOODMAYHAVEGREATERACCESSTOINFORMATIONABOUTITTHANWOULDRSTTIMEBUYERSFINALLY,SOMEINDIVIDUALSMAYHAVEINVESTEDINSOMETYPESOFINFORMATIONSERVICESFOREXAMPLE,BYHAVINGACOMPUTERLINKTOABROKERAGERMORBYSUBSCRIBINGTOCONSUMERREPORTSTHATMAKETHEMARGINALCOSTOFOBTAININGADDITIONALINFORMATIONLOWERTHANFORSOMEONEWITHOUTSUCHANINVESTMENTALLOFTHESEFACTORSSUGGESTTHATTHELEVELOFINFORMATIONMAYDIFFERAMONGTHEPARTICIPANTSINMARKETTRANSACTIONSOFCOURSE,INMANYINSTANCES,INFORMATIONCOSTSMAYBELOWANDSUCHDIFFERENCESMAYBEMINORMOSTPEOPLECANAPPRAISETHEQUALITYOFFRESHVEGETABLESFAIRLYWELLJUSTBYLOOKINGATTHEM,FOREXAMPLEBUTWHENINFORMATIONCOSTSAREHIGHANDVARIABLEACROSSINDIVIDUALS,WEWOULDEXPECTTHEMTONDITADVANTAGEOUSTOACQUIREDIFFERENTAMOUNTSOFINFORMATIONINFORMATIONANDINSURANCETHEMARKETFORINSURANCEISCHARACTERIZEDBYANUMBEROFINFORMATIONALASYMMETRIESMOSTOFTHESEARISEFROMDIFFERENCESBETWEENBUYERSANDSELLERSOFINSURANCEINTHEIRINFORMATIONABOUTTHEUNCERTAINEVENTBEINGINSUREDAGAINSTBECAUSEBUYERSOFINSURANCEDIRECTLYFACETHESEUNCERTAINTIES,THEYAREOFTENINABETTERPOSITIONTOKNOWTHETRUELIKELIHOODOFTHEIROCCURRENCEANDAREFREQUENTLYABLETOTAKEACTIONSTHATMAYAFFECTTHATLIKELIHOODACAROWNERINANURBANAREA,FOREXAMPLE,KNOWSWHETHERHEORSHEISPARKINGINANAREAWHERECARSARELIKELYTOBESTOLENANDCOULD,POSSIBLYATSOMECOST,CHOOSETOPARKINASAFERPLACEAUTOMOBILEINSURANCERMS,ONTHEOTHERHAND,NDITPROHIBITIVELYCOSTLYTODISCOVERHOWEACHPOLICYHOLDERPARKSANDMUSTINSTEADBASERATESONANASSUMEDAVERAGEBEHAVIORBECAUSETHISTYPEOFSITUATIONISNOTUNIQUETOINSURANCEMARKETS,BUTCHARACTERIZESALARGENUMBEROFTRANSACTIONSINVOLVINGINFORMATIONALASYMMETRIES,WEWILLEXAMINEITINCHAPTER9THEECONOMICSOFINFORMATION229SOMEDETAILTHECONCEPTSOF“MORALHAZARD”AND“ADVERSESELECTION”THATWEWILLDESCRIBEAREPERHAPSTHEMOSTIMPORTANTDISCOVERIESOFMODERNINFORMATIONTHEORYMORALHAZARDINDIVIDUALSCANTAKEAVARIETYOFACTIONSTHATMAYINUENCETHEPROBABILITYTHATARISKYEVENTWILLOCCURHOMEOWNERSCONTEMPLATINGPOSSIBLELOSSESFROMRE,FOREXAMPLE,CANINSTALLSPRINKLERSYSTEMSORKEEPREEXTINGUISHERSATCONVENIENTLOCATIONSSIMILARLY,PEOPLEMAYBUYANTITHEFTDEVICESFORCARSORKEEPPHYSICALLYTINANATTEMPTTOREDUCETHELIKELIHOODOFILLNESSINTHESEACTIVITIES,UTILITYMAXIMIZINGINDIVIDUALSWILLPURSUETHERISKREDUCTIONUPTOTHEPOINTATWHICHMARGINALGAINSFROMADDITIONALPRECAUTIONSAREEQUALTOTHEMARGINALCOSTOFTHESEPRECAUTIONSINTHEPRESENCEOFINSURANCECOVERAGE,HOWEVER,THISCALCULATIONMAYCHANGEIFAPERSONISFULLYINSUREDAGAINSTLOSSES,HEORSHEWILLHAVEAREDUCEDINCENTIVETOUNDERTAKECOSTLYPRECAUTIONSANDMAYTHEREFOREINCREASETHELIKELIHOODOFALOSSOCCURRINGINTHEAUTOMOBILEINSURANCECASE,FOREXAMPLE,APERSONWHOHASAPOLICYTHATCOVERSTHEFTMAYPARKINLESSSAFEAREASORREFRAINFROMINSTALLINGANTITHEFTDEVICESTHISBEHAVIORALRESPONSETOINSURANCECOVERAGEISTERMED“MORALHAZARD”MORALHAZARDTHEEFFECTOFINSURANCECOVERAGEONINDIVIDUALSDECISIONSTOUNDERTAKEACTIVITIESTHATMAYCHANGETHELIKELIHOODOFINCURRINGLOSSESTHEUSEOFTHETERM“MORAL”TODESCRIBETHISRESPONSEISPERHAPSUNFORTUNATETHEREISNOTHINGPARTICULARLY“IMMORAL”ABOUTTHEBEHAVIORBEINGDESCRIBEDINDIVIDUALSARESIMPLYRESPONDINGTOTHEINCENTIVESTHEYFACEINSOMEAPPLICATIONS,THISRESPONSEMIGHTEVENBEDESIRABLE2BUT,BECAUSEINSURANCEPROVIDERSMAYNDITVERYCOSTLYTOMEASUREANDEVALUATESUCHRESPONSES,MORALHAZARDMAYHAVEIMPORTANTIMPLICATIONSFORTHEALLOCATIONOFRESOURCESTOEXAMINETHESE,WENEEDASIMPLEUTILITYMAXIMIZINGMODELAMATHEMATICALMODELSUPPOSEARISKAVERSEINDIVIDUALFACESTHEPOSSIBILITYOFINCURRINGALOSSLTHATWILLREDUCEHISORHERINITIALWEALTHW0THEPROBABILITYOFLOSSISGIVENBYH9266,ANDTHISPROBABILITYCANBEREDUCEDBYTHEAMOUNTATHATANINDIVIDUALSPENDSONPREVENTATIVEMEASURESIFWEASSUMESTATEINDEPENDENCE,WECANLETUWREPRESENTTHEINDIVIDUALSUTILITYINBOTHSTATE1NOLOSSANDSTATE2LOSSINTHEABSENCEOFINSURANCECOVERAGE,WEALTHINTHETWOSTATESISGIVENBYW1H11005W0H11002AW2H11005W0H11002AH11002L,98DEFINITION230PARTIIICHOICEUNDERUNCERTAINTY2FOREXAMPLE,PEOPLEWITHMEDICALINSURANCEMAYBEENCOURAGEDTOSEEKEARLYTREATMENTBECAUSETHEINSURANCEREDUCESTHEOUTOFPOCKETCOSTOFMEDICALCAREANDTHEINDIVIDUALCHOOSESATOMAXIMIZEEXPECTEDUTILITYH11005EH110051H11002H9266UW1H11001H9266UW299REMEMBERINGTHATH9266ISAFUNCTIONOFA,THERSTORDERCONDITIONFORAMAXIMUMISTHEREFOREH11005H11002UW1H110021H11002H9266UH11032W1H11001UW2H11002H9266UH11032W2H110050910ORH9266UH11032W2H110011H11002H9266UH11032W1H11005UW2H11002UW1911THISRESULTHASTHECOMMONSENSEINTERPRETATIONTHATTHEINDIVIDUALSHOULDUNDERTAKEPRECAUTIONARYACTIVITIESUPTOTHEPOINTATWHICHTHEEXPECTEDMARGINALUTILITYCOSTFROMREDUCEDWEALTHOFSPENDINGONEMOREDOLLARONSUCHACTIVITIESTHELEFTSIDEOFEQUATION911ISEQUALTOTHEREDUCTIONH11128H9266/H11128AISNEGATIVEINTHEEXPECTEDVALUEOFTHEUTILITYLOSSTHATMIGHTBEENCOUNTEREDINBADTIMESBEHAVIORWITHINSURANCEANDPERFECTMONITORINGWITHINSURANCECOVERAGETHESTORYISMORECOMPLEXNOWTHEINDIVIDUALMAYPURCHASEINSURANCECOVERAGETHATPAYSXIFALOSSINCURS,ANDTHEPREMIUMFORTHISCOVERAGEISGIVENBYPWHICHWILLOBVIOUSLYDEPENDONXWEALTHINTHETWOPOSSIBLESTATESISNOWGIVENBYW1H11005W0H11002AH11002PW2H11005W0H11002AH11002PH11002LH11001X,912ANDTHEINDIVIDUALCHOOSESAANDXTOMAXIMIZEEXPECTEDUTILITYIFTHEINSURANCEPROVIDERCOULDMONITORPRECAUTIONARYACTIVITIESANDTHEREFOREKNOWTHEPROBABILITYOFLOSS,ITCOULDCHARGEAFAIRINSURANCEPREMIUMOFPH11005H9266X913WITHSUCHAPOLICYW1H11005W0H11002AH11002H9266X,W2H11005W0H11002AH11002LH110011H11002H9266X914ASSUMINGSTATEINDEPENDENCE,THISPERSONCANMAXIMIZEEXPECTEDUTILITYBYCHOOSINGXSOTHATW1H11005W2,WHICH,ASINOURPREVIOUSMODELS,REQUIRESFULLINSURANCECOVERAGETHATIS,XH11005LWITHFULLCOVERAGE,THERSTORDERCONDITIONFORAUTILITYMAXIMIZINGCHOICEOFAISH11005H110021H11002H9266UH11032W1H208981H11001LH20899H11002UW1H11002H9266UH11032W2H208981H11001LH20899H11001UW2H110010915H11128H9266H5007H11128AH11128H9266H5007H11128AH11128H9266H5007H11128AH11128H9266H5007H11128AH11128EH5007H11128AH11128H9266H5007H11128AH11128H9266H5007H11128AH11128H9266H5007H11128AH11128EH5007H11128ACHAPTER9THEECONOMICSOFINFORMATION231OR,USINGTHEFACTTHATW1H11005W2,1H11005H11002L916THISCONDITIONISDIRECTLYANALOGOUSTOTHEONEDERIVEDEARLIERFORTHEUNINSUREDCASE,ALTHOUGHNOW,WITHTHEAVAILABILITYOFFULLINSURANCE,ITCANBESTATEDMORESIMPLYATTHEUTILITYMAXIMIZINGCHOICE,THEMARGINALCOSTOFANEXTRAUNITOFPREVENTIONWHICHHEREISJUST1SHOULDEQUALTHEMARGINALREDUCTIONINTHEEXPECTEDLOSSPROVIDEDBYTHATEXTRASPENDINGHENCE,WITHFULLINSURANCEANDTHEACTUARIALLYFAIRPREMIUMSMADEPOSSIBLEBYPERFECTMONITORING,PRECAUTIONARYPURCHASESARESTILLMADEATTHEOPTIMALLEVELSTHEINFORMATIONPROBLEMANDIMPERFECTMONITORINGOURANALYSISSOFARHASBEENBASEDONTHEUNREASONABLEASSUMPTIONTHATINSURANCEPROVIDERSKNOWTHEPROBABILITYTHATEACHINDIVIDUALWILLINCURALOSSANDCANTHEREFORECHARGETHEACTUARIALLYFAIRPREMIUMTOTHATPERSONWHENINDIVIDUALSCANUNDERTAKEPRECAUTIONARYACTIVITIES,THISASSUMPTIONSEEMSPARTICULARLYDOUBTFULITWOULDSEEMTOREQUIRETHATTHEPROVIDERCONSTANTLYMONITOREACHPERSONSACTIVITIESTODETERMINEWHATHISORHERPROBABILITYOFLOSSISITWOULDREQUIRETHEPROVIDERTOQUOTEADIFFERENTPREMIUMTOEACHBUYERTOREECTHISORHEROWNPRECAUTIONARYACTIVITIESOBTAININGSUCHINFORMATIONISPROHIBITIVELYCOSTLYINMOSTCIRCUMSTANCES,ANDINSURERSHAVETOADOPTLESSFULLYINFORMEDMETHODSOFPREMIUMSETTINGINTHESIMPLESTCASE,THEINSURERMIGHTSETAPREMIUMBASEDONTHEAVERAGEPROBABILITYOFLOSSEXPERIENCEDBYSOMEGROUPOFPEOPLE,WITHNOVARIATIONALLOWEDFORSPECICINDIVIDUALPRECAUTIONARYACTIVITIES3WITHSUCHAPOLICY,HOWEVER,EACHINDIVIDUALHASANINCENTIVETOREDUCEHISORHERPRECAUTIONARYACTIVITIESBECAUSETHESEARECOSTLYAND,INTHEPRESENCEOFFULLINSURANCE,YIELDNOBENETSINTERMSOFUTILITYTHISRESULTCANBESHOWNDIRECTLYFORTHEFULLINSURANCECASEIFXH11005LINEQUATIONS912,W1H11005W2REGARDLESSOFTHEPREMIUMCHARGEDORTHEPRECAUTIONSUNDERTAKENSINCEPREMIUMSNOWDONOTDEPENDONA,HOWEVER,ITISCLEARTHATUTILITYISMAXIMIZEDWHENAH110050EVENWHENPREMIUMSDODEPENDPARTLYONA,THERESULTINGUTILITYMAXIMUMWILLBECHARACTERIZEDBYTOOLITTLEPRECAUTIONARYSPENDINGAND,PERHAPS,TOOMUCHINSURANCEINESSENCETHEN,THEDISTORTINGEFFECTOFMORALHAZARDONTHEALLOCATIONOFRESOURCESARISESFROMTHEINFORMATIONALASYMMETRYBETWEENINDIVIDUALSANDINSURANCEPROVIDERSWITHRESPECTTOTHEABILITYTOMONITORPRECAUTIONSTAKEN4EXAMPLE92MORALHAZARDANDMONITORINGINSEVERALOFTHEEXAMPLESINCHAPTER8,WEEXAMINEDANINDIVIDUALSDECISIONABOUTBUYINGINSURANCEAGAINSTTHEFTOFACARWORTH20,000HEREWELOOKATHISORH11128H9266H5007H11128A232PARTIIICHOICEUNDERUNCERTAINTY3ANOTHERPOSSIBILITYISTHATTHEINSURERMAYBEABLETOCATEGORIZEINDIVIDUALSINTOVARIOUSRISKCATEGORIESFOREXAMPLE,“SMOKERS”VERSUS“NONSMOKERS,”“URBAN”VERSUS“RURAL”RESIDENTS,ANDSOFORTHINTHENEXTSECTIONWEEXAMINESOMEOFTHEISSUESTHATARISEINMARKETSCHARACTERIZEDBYSUCHRISKCLAUSES4IFINSURA