Worker Preferences for Risk Risk is a bad, not a good, so higher utility is achieved by moving up to the northwest. Person A is more risk averse than Person B. He requires more money to undertake risk. Graph by Harcourt, Inc.

Firm Isoprofit Curves – Costs of Reducing Risk Each curve represents a profit level. Higher profits are obtained by moving to the southeast. Firm Y finds it more costly to reduce risk – they would have to offer a much lower wage to maintain the same profit level. Graph by Harcourt, Inc.

Matching Workers and Firms There are 2 firms (X and Y) and 2 workers (A and B). Workers want to maximize utility and firms want to maximize profits. More risk averse worker A matches with firm X who can reduce risk more cheaply. B is less risk averse and matches with firm Y. Graph by Harcourt, Inc.

Is There a Role for OSHA? Assuming everyone is well informed, Worker B is maximizing utility at N. If OSHA limits risk to R* he will have to drop to a lower level of utility. If the risk level is higher than Worker B knows, he might be at Q and the firm is making extra profits. He could be made better off by reducing the level of risk, since he is not currently maximizing. Graph by Harcourt, Inc.

Tradeoff Between Wages and Benefits One can look at the tradeoff between wages and benefits in the same way, but now benefits are a good, not a bad. Graph by Harcourt, Inc.

Compensating Differentials for Uncertainty Job 1 offers H’ hours with certainty, while Job 2 has E(hours) = 0.5*Hh + 0.5*H1 = H’ so expected hours are the same in both jobs. But utility is not the same. Dimininishing marginal utility of income implies E(U) < U(H’). Would need a compensating differential to be willing to take uncertain job. Graph copyright © 2003 by Pearson Education, Inc.