Where there are posted restrictions, most European countries take speeding very seriously and levy hefty fines. The latest case in point is a\u00a037 year-old Swedish man who was clocked at 180 miles per hour on a motorway between Bern and Lausanne in Switzerland.<\/p>\n
Unfortunately for this driver of a new\u00a0Mercedes-Benz SLS AMG, Switzerland doesn’t have fixed fines for speeding. Instead they use a formula similar to that in Finland where the fine is calculated based on the vehicle’s speed and the driver’s income. Back in 2002, Nokia executive\u00a0Anssi Vanjoki had to pay a fine of $103,600\u00a0for going 47 mph in a 31 mph zone.<\/p>\n
A student in my Law, Economics, and Organization seminar mentioned the\u00a0article<\/a>\u00a0quoted above last week when I was explaining the difference between the twin concepts of absolute and relative risk aversion.<\/p>\n In economics, risk is not so much about what most people call risk as it is about gambles over income. In other words, risk preferences are defined over income or wealth. See\u00a0here<\/a>\u00a0for an excellent discussion starting on page 64 in chapter 6 of David Friedman’s\u00a0Law’s Order<\/a><\/em>. So why would Switzerland and Finland have speeding fines that vary with income?<\/p>\n Two measures of risk in economics are absolute risk aversion — one’s risk preferences over absolute amounts of money (e.g., a gamble involving a 50-percent chance of losing $200 and a 50-percent chance of winning $500) — and relative risk aversion — one’s risk preferences over proportions of one’s wealth or income (e.g., a gamble involving a 50-percent chance of losing 0.2 percent of one’s annual income and a 50-percent chance of\u00a0winning\u00a00.5 percent of one’s annual income).<\/p>\n Analytically, the two concepts are closely related. Letting\u00a0w<\/em>\u00a0denote income or wealth,\u00a0A<\/em>(w<\/em>) denote absolute risk aversion, and\u00a0R(w<\/em>)<\/em>\u00a0denote relative risk aversion, both as a function of income and wealth, we have that\u00a0R(w<\/em>)\u00a0= w\u00b7A(w<\/em>)<\/em>.<\/p>\n It is generally the case that people getting less absolutely risk averse as they get wealthier. In other words, as w<\/em>\u00a0increases,\u00a0A<\/em>(w<\/em>)\u00a0decreases.<\/p>\n When\u00a0A<\/em>(w<\/em>)\u00a0decreases as income increases, we talk of decreasing absolute risk aversion. If it is the case that people are decreasingly absolutely risk averse — that is, if a gamble over a specific dollar amount is increasingly attractive as someone gets wealthier — then this means that wealthier individuals are more likely to be risk-seeking. In other words, wealthier individuals will be more likely to drive too fast, since for them, a $250 speeding fine represents a smaller (absolute) risk.<\/p>\n To curb this type of behavior, it makes sense that policy makers might want to tie speeding fines to the driver’s income or wealth, as in the article above.<\/p>\n Under a vast number of circumstances, even if absolute risk aversion\u00a0A<\/em>(w<\/em>) decreases as w<\/em>\u00a0increases, relative risk aversion\u00a0R(w<\/em>)<\/em>\u00a0will increase as w<\/em>\u00a0increases. This means that when speeding fines are proportions of a driver’s income (e.g., you pay 5 percent of your income if you are caught speeding) rather than absolute dollar amounts (e.g., you pay $250 if you are caught speeding).<\/p>\n More importantly, this also suggests that courts could — and, if you take the distinction between absolute and relative risk aversion seriously, should — impose damages<\/a> proportional to the defendant’s income rather than fixed damages when deciding how much a defendant should compensate a plaintiff for a loss or injury.<\/p>\n (HT: Dylan Flye.)<\/p>\n","protected":false},"excerpt":{"rendered":" Where there are posted restrictions, most European countries take speeding very seriously and levy hefty fines. The latest case in point is a\u00a037 year-old Swedish<\/p>\nAbsolute Versus Relative Risk Aversion<\/h3>\n