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University of California, Davis Dr. Janine L.F. Wilson Department of Economics Fall 2009 Economics 151a Homework 5 – Answer Key Compensating Wage Differentials 1. There is a mythical town in the United States called Dirkville where 100,000 people live and there are no visitors or out-of-town guests. The average salary for the people of Dirkville is \$50,000. a. An intersection on a busy street in a town called Dirkville is governed by stop signs for the traffic coming from two of the four directions. Each year, 2 of the 100,000 people that live in Dirkville are killed as a result of accidents in the intersection. Studies have shown that if a stoplight was installed in the intersection the death rate would fall to 1 in 100,000 people that live in Dirkville. Installing the stoplight would cost each citizen of Dirkville 1% of their salary in time lost and maintenance. What would be the minimum statistical value of a life in Dirkville have to be if the city government chose to put in a stoplight? 1% of salary is \$500 per person. \$500 * 100,000 people = \$50,000,000. So, a life would have to be worth \$50 million in order to put in a stoplight. 2. In the town of Allington there are two firms. Bibster Inc. is a firm that makes uniforms and Heel Toe Co. is a firm that makes work boots. Bibster Inc is a safe firm (probability of injury is zero) and Heel Toe Co. is a risky firm (probability of injury is one). Workers in Allington all have the same preferences represented by U=2W-8X where X is the probability of injury.

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