Question

Consider a worker with a utiltiy function: U=W-R², where W is the wage, and R is the risk of fatality per 100,000 workers per year.

a) On a graph, draw the two indifference curves that represent this worker's preference for wage versus risk at utility levels: U₁=10 and U₂=20.

b) Which of the following two offers would this worker prefer: (W=$20, R=1) OR (W=$25, R=3)?

c) Assume this worker is currently employed at a job with W=$30 and R=2. By how much would this worker have to be compensated in order to be indifferent between his current job, and a job where the risk is: R=4? (hint: it may be helpful to calculate the worker's utility)

d) Someone suggests to you that the theory of compensating wage differentials is untrue, because workers in more dangerous occupations earn, on average, less than workers in safer occupations. What important consideration has this person ignored? Explain briefly (2-3 sentences).

Answer 1