Essays on applied economics



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Assumption 1. Social cost is minimized if all drivers take high care. Social cost is maximized if all drivers take low care. Thus:

. (2.1)

From this assumption, we have: , and other similar inequalities.

We further assume that:



Assumption 2. An increase in the care level reduces more effectively the probability of an accident when the care level of the other driver is relatively low.

This implies that and other similar inequalities.
Because taking high care minimizes social costs, any driver in an accident who does not take high care is negligent (or contributorily negligent).
Under CN, both drivers share the losses according to their relative negligence, or care shortfall. For example, if an accident happens between a driver taking medium care and a driver taking low care, then the driver taking medium care will bear portion of the total loss13, while the other party will bear the rest of the loss. Since , we have . The following is the payoff matrix of the game.

Table 2.1

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