Exam 17: Uncertainty and Asymmetric Information

In the market for used electric wheelchairs, there are high- and low-quality wheelchairs. Potential buyers cannot determine prior to purchase whether a wheelchair is high or low quality. The following statement that best describes what is likely to happen in this market is

Mechanism design can be used to provide employers and employees with the right incentives in labor markets.

Someone who is an excellent salesperson will normally be less inclined to work for commissions than for a fixed salary.

You are in the market for a used 2013 Honda Accord. You know that half of the 2013 Accords are lemons and half are peaches. If you could be assured that the Accord you were buying was a peach, you would be willing to pay up to $10,000. On the other hand, you would only be willing to pay $2,000 for a lemon. You have no ability to discern whether any particular Accord is a lemon or a peach. Sellers of Accords, on the other hand, are likely to know whether their particular car is a lemon or a peach. Suppose sellers of lemons will sell their cars for $1,500 or more and peach sellers will be willing to sell their cars for $8,500 or more. You are willing to offer ________ for a car of unknown quality and ________ are willing to sell you their car.

In the market for used motorcycles there are high-quality motorcycles and low-quality motorcycles. Potential buyers cannot determine prior to purchase whether the motorcycle is high quality or low quality. Which of the following statements best describes what is likely to happen in this market?

Refer to the information provided in Figure 17.2 below to answer the question(s) that follow. Figure 17.2 -Refer to Figure 17.2. We would say that Sam is risk neutral based on his

Incentives can be used to reduce both adverse selection and moral hazard.

Refer to the data provided in Table 17.4 below to answer the following question(s). The table shows the relationship between income and utility for Celeste. Table 17.4 Income Total Utility \ 0 0 \ 40,000 50 \ 80,000 90 \ 120,000 120 \ 160,000 140 -Refer to Table 17.4. Suppose Celeste has a 1/3 chance of becoming disabled in any given year. If she does become disabled, she will earn $0. If Celeste does not become disabled, she will earn her usual salary of $120,000. Celeste has the opportunity to purchase disability insurance for $40,000 which will pay her her full salary in the event she becomes disabled. Celeste's utility with the policy is

Why, in the labor market, are contracts often designed to include a variable salary component that is tied to some measure of performance?

Refer to the information provided in Figure 17.1 below to answer the question(s) that follow. Figure 17.1 -Refer to Figure 17.1. Dmitri has two job offers when he graduates from college. Dmitri views the offers as identical, except for the salary terms. The first offer is at a fixed annual salary of $40,000. The second offer is at a fixed salary of $20,000 plus a possible bonus of $40,000. Dmitri believes that he has a 50-50 chance of earning the bonus. If Dmitri takes the offer that maximizes his expected utility and is he is risk averse, then

The sum of the utilities from each possible outcome of a situation weighted by the probability of that outcome is known as

Related to the Economics in Practice on page 360: Suppose you see the following advertisement for a vacation rental. "Beautiful condo on the Island of Maui (Hawaii). Sleeps 5. Great landscaped grounds, pool, and BBQ area. Lanai overlooks pool. $1,500 per week." It is likely true that the condo

Most of the interest in using incentives arises due to uncertainty.

The insurance industry is susceptible to adverse selection problems, but not problems of moral hazard.

Consider the following game. You roll a six-sided die and each time you roll a 6, you get $30. For all other outcomes you pay $6. Since the expected value of this game is $0, the game is called a(n)

Relating to the Economics in Practice on page 357: An individual with a parent who has Huntington's disease has a 50 percent chance of also having the disease, and can use this information when deciding on the purchase of health insurance. This is an example of ________ favoring potential insurance buyers.

Consider the following game. You pick a card from a 52-card deck and each time you select a queen, you get $520. For all other cards pay $26. The expected value of the game is

Refer to the information provided in Figure 17.1 below to answer the question(s) that follow. Figure 17.1 -Refer to Figure 17.1. Dmitri has two job offers when he graduates from college. Dmitri views the offers as identical, except for the salary terms. The first offer is at a fixed annual salary of $40,000. The second offer is at a fixed salary of $20,000 plus a possible bonus of $40,000. Dmitri believes that he has a 50-50 chance of earning the bonus. Dmitri's expected value from the first job offer is ________ and is ________ from the second job offer.

With ________, the quality of what is being offered in a transaction matters and is not easily demonstrated.

Refer to the data provided in Table 17.5 below to answer the following question(s). The table shows the relationship between income and utility for Lucy. Table 17.5 Income Total Utility \ 0 0 \ 10,000 10 \ 20,000 20 \ 30,000 30 \ 40,000 40 -Refer to Table 17.5. Lucy earns $20,000 annually. She has the opportunity to bet her entire salary on the upcoming super bowl. If Lucy takes the bet, she will pick the Packers. She believes that the Packers have a 50-50 chance of winning the game. If the Packers win, then Lucy will win $38,000. However, if they lose she loses her entire salary ($0). Will Lucy take the bet?