Question
A farmer lives on a flat plain next to a river. In addition to the farm, which is worth $F, the farmer owns financial assets worth $A. The river bursts its banks and floods the plain with probability P, destroying the farmIf the farmer is risk averse, then the willingness to pay for flood insurance unambiguously falls when:________. A) F is higher, and A is lower.B) P is lower, and F is higher.C) F & A are higher.D) P is lower, and A is lower.E) A is higher, and F is lower.
Answer
P is lower, and A is lower.
- Given that the willingness to pay for flood insurance unambiguously falls. To fall the willingness to pay for flood insurance, P should decrease. Because if the probability P of having the farm destroyed decreases, then the risk of losing the farm decreases which makes the farmer less likely to pay for flood insurance.
- Option D describes the condition where the willingness to pay for flood insurance falls. Hence, the answer is option D.