Answer:
1. The mean amount that this farmer will earn over a long period of years is:
$57,100
2. It makes sense financially for the farmer to buy the insurance. In a year of drought, he earns only $5,200. If he spends on insurance premium, his earnings are reduced by $2,000 to $3,200 but the insurance reimbursement will take his overall net earnings to $23,200 ($3,200 + $20,000). Incurring the insurance expense is highly justified.
Step-by-step explanation:
Earnings in a typical year = $75,000
Earnings in a wet year = $48,000
Earnings in a drought = $26,000
Pro
Typical Wet Drought
Earnings $75,000 $48,000 $26,000
Probability 0.50 0.30 0.20
Expected
earnings $37,500 $14,400 $5,200
Mean earnings = $57,100
Insurance expense $2,000
Net earnings after insurance expense $3,200
Insurance Reimbursement $20,000
Net earnings $23,200
