Exam 12: The Economics of Information

Risk-averse persons sometimes prefer to play some gambles even if they know that those gambles are not fair, i.e., on average people lose by playing them. One plausible explanation for this seemingly paradoxical phenomenon is that:

Consider an antique auction where bidders have independent private values. There are two bidders, each of whom perceives that valuations are uniformly distributed between $100 and $1,000. One of the bidders is Sue, who knows her own valuation is $200. What is Sue's optimal bidding strategy in a second-price, sealed-bid auction?

Many tout that the Internet has lowered consumers' search costs. If this is true, ceteris parabis, the consumer reservation price should:

You are a hotel manager and you are considering four projects that yield different payoffs, depending upon whether there is an economic boom or a recession. The potential payoffs and corresponding payoffs are summarized in the following table. Which project has the greatest expected value?

Suppose that there are two types of cars, good and bad. The qualities of cars are not observable but are known to the sellers. Risk-neutral buyers and sellers have their own valuation of these two types of cars as follows: Suppose that both buyers and sellers observe the quality. What happens?

At Econ Tech, the average grade in a course that all students know to be a "blow-off" course is the same as the average grade in the toughest math course. Why?

A risk-neutral monopoly must set output before it knows the market price. There is a 50 percent chance the firm's demand curve will be P = 20 - Q and a 50 percent chance it will be P = 40 - Q. The marginal cost of the firm is MC = Q. What is the expression for the expected marginal revenue function?

In order to reduce the undesirable effects of moral hazard, an insurance company can:

You are a hotel manager and you are considering four projects that yield different payoffs, depending upon whether there is an economic boom or a recession. The potential payoffs and corresponding payoffs are summarized in the following table. Which project has the lowest expected value?

A risk-neutral monopoly must set output before it knows the market price. There is a 50 percent chance the firm's demand curve will be P = 40 - Q and a 50 percent chance it will be P = 60 - Q. The marginal cost of the firm is MC = 3Q. The expected profit-maximizing price is:

Joe's search costs are $5 per search. He wants to buy a video player for his wife for Christmas, and the lowest price he's found so far is $200. Joe thinks 50 percent of the stores charge $200 for video players and 50 percent charge $190. Based on this information:

A manager is attempting to assess the probability of a recession ending in the next six months and its impact on expected profitability. The manager believes there is a 75 percent chance the recession will end in six months and profits will return to $400 million. However, there is a 25 percent chance the recession will not end in six months, resulting in a $5 million loss. The expected profits over the next six months are:

Susan's search costs are $7 per search. She wants to buy a coat, and the lowest price she has found so far is $180. Susan thinks 25 percent of the stores charge $180 for this coat, 50 percent charge $160, and the other 25 percent charge $150. Susan's optimal decision is to:

You are considering opening your own hamburger restaurant. List the information that will influence your decision about whether to start your own restaurant or go with a franchise.

The optimal strategy for a risk-neutral bidder in a second-price, sealed-bid auction with independent private values is to bid:

Joe's search costs are $5 per search. He wants to buy a video player for his wife for Christmas, and the lowest price he's found so far is $300. Joe thinks 80 percent of the stores charge $300 for video players and 20 percent charge $200. Joe's optimal decision is to:

Suppose that there are two types of cars, good and bad. The qualities of cars are not observable but are known to the sellers. Risk-neutral buyers and sellers have their own valuation of these two types of cars as follows: When a buyer does not observe the quality, what is the highest price she will offer for a used car if she ignores adverse selection?

Consider an auctioneer who is selling an item through an auction. It is known that the 10 risk-neutral bidders have independent private values that are uniformly distributed between $1,000 and $2,000. Based on this information, we can conclude that the expected revenue in this auction will be:

The expected revenues in auctions with risk-averse bidders with independent private values will be:

A risk-neutral monopoly must set output before it knows the market price. There is a 50 percent chance the firm's demand curve will be P = 20 - Q and a 50 percent chance it will be P = 40 - Q. The marginal cost of the firm is MC = Q. The expected profit-maximizing price is: