Question 1

If a firm was owned by its employees,

Accepted Answer

Employee-owned firms often prioritize job security over wage levels, meaning they might prefer wage reductions to layoffs to preserve employment for their members.

Question 2

Workers can reduce the chance of an employer lying by

Accepted Answer

Obtaining more information about the firm's performance can help workers see if the employer's claims are accurate. Having a representative on the board of directors can provide workers with an inside view of the company's decision-making processes, allowing them to hold the employer accountable. Requiring that employers share the cost of an economic downtown can make it less likely that they will lie about the company's financial situation. Therefore, all of the above options can reduce the chance of an employer lying.

Question 3

Suppose the probability of an employee being caught shirking, q, is a function of the employer's monitoring, M, such that q = M/100. If workers must put up a $1,000 bond and the gain to each worker from shirking is $100, what is the employer's optimal level of monitoring that is just sufficient to discourage shirking?

Accepted Answer

The answer of Suppose the probability of an employee being...

Question 4

Why would a firm knowingly hire lazy employees?

Accepted Answer

It is unlikely that a firm would knowingly hire lazy employees, unless in the rare case that they have a positive marginal revenue product. This means that the value they bring to the firm offsets their laziness, such as if they have a unique skillset or knowledge that is valuable to the company. In general, firms strive to hire productive and motivated employees to increase efficiency and profitability.

Question 5

If a firm hires lazy employees,

Accepted Answer

The answer of If a firm hires lazy employees,
...

Question 6

A good salesperson can sell $1,000,000 worth of goods, while a poor one can sell only $100,000 worth of goods. Job applicants know if they are good or bad, but the firm does not. A firm will offer job applicants a choice between a fixed salary and a 20% commission. Assuming risk-neutral salespersons and no opportunistic behavior, what level must the fixed salary be so that the firm can determine a prospective good salesperson from a poor one?

Accepted Answer

For a good salesperson, the commission would be 20% of $1,000,000, which is $200,000. For a poor salesperson, the commission would be 20% of $100,000, which is $20,000. To distinguish between a good and a poor salesperson, the fixed salary must be attractive to the poor salesperson but less attractive than the commission for the good salesperson. Therefore, the fixed salary must be between $20,000 (the commission for a poor salesperson) and $200,000 (the commission for a good salesperson).

Question 7

Firms that seek to avoid hiring lazy workers that assert they are hardworking are trying to avoid

Accepted Answer

Adverse selection occurs when one party in a transaction (e.g. an employer) does not have full information about the other party (e.g. a job applicant). In this case, the employer may be concerned that lazy job applicants will be more likely to apply, while hardworking applicants may be deterred by the application process or may have other, more attractive job offers elsewhere. To avoid adverse selection, the employer may implement screening measures (such as requiring applicants to complete a rigorous application process or take a skills test) to identify the most qualified and motivated candidates for the job. By doing so, the employer can improve the quality of the workforce and reduce the risk of hiring lazy or unproductive workers.

Question 8

Socially inefficient outcomes are possible when

Accepted Answer

The answer of Socially inefficient outcomes are possible when
...

Question 9

If good salespeople are extremely risk averse, then a choice between a fixed-fee contract and a contingent contract

Accepted Answer

Good salespeople are risk averse and prefer a fixed fee contract because it mitigates the risk of not earning enough if they don't sell enough. A contingent contract, on the other hand, offers higher potential earnings but also higher risk if they don't meet the targets. Therefore, offering both options may not be a good screening device as it may not accurately identify the risk aversion of the job candidate.

Question 10

Including an employee representative on the board of directors reduces the possibility of opportunistic employer behavior.

Accepted Answer

This alleviates asymmetric information between the principal and the agent and will reduce the possibility of opportunistic behavior by the principal because the agent is better informed.

Question 11

A deferred payment scheme is more likely to be accepted by a worker if

Accepted Answer

A deferred payment scheme may be more acceptable to a worker if they feel secure in their job and believe that the company values senior employees and will not try to cut costs at their expense. Therefore, option A is the best choice. The age of the worker is not mentioned as a determining factor in accepting a deferred payment scheme, so options B and C can be ruled out. Option D is incorrect because option A is a valid choice.

Question 12

Suppose an employer has monitoring devices established so that the probability of an employee being caught while shirking is 0.2. If the gain to the employee from shirking is $1,000, how large a bond will deter shirking?

Accepted Answer

The answer of Suppose an employer has monitoring devices established...

Question 13

Assume a firm is run as a zero-profit enterprise. Which of the following would be TRUE?

Accepted Answer

The answer of Assume a firm is run as a...

Question 14

One way to prevent workers from shirking is to

Accepted Answer

Hiring workers who are predisposed toward not shirking, also known as having a strong work ethic, is an effective way to prevent shirking. These workers are more likely to take their job responsibilities seriously and be motivated to perform well. This can result in higher productivity, higher quality work, and a better overall work environment.

Question 15

Suppose employees pay a bond of $1,000 to an employer. The gain from shirking is $400. Monitoring devices have been installed so that there is a 50% chance of being caught if you are shirking. The company is considering the installation of additional monitoring devices to increase the chance of catching a shirker to 100%. They feel this is needed to deter all shirking. What is your recommendation to the company? Explain.

Accepted Answer

The answer of Suppose employees pay a bond of $1,000...

Question 16

Wage reduction policies are less common than layoffs because

Accepted Answer

Wage reduction policies involve asymmetric information between the firm and its employees. The firm may claim that it needs to lower wages due to financial difficulties, but the employees may not trust the firm's claims or may suspect that the firm is simply trying to increase profits. This creates a situation of adverse selection, where the most skilled and valuable employees may leave the firm if they believe that wage reductions will continue in the future. As a result, wage reduction policies are less commonly used, and firms often resort to layoffs or other cost-cutting measures.

Question 17

A good salesperson can sell $500,000 worth of goods, while a poor one can sell only $100,000 worth of goods. Job applicants know if they are good or bad, but the firm does not. A firm will offer job applicants a choice between a fixed salary of $10,000 or a 10% commission. Assuming risk-neutral salespersons and no opportunistic behavior, can the firm determine a prospective good salesperson from a poor one?

Accepted Answer

A poor salesperson will choose the fixed salary because they know they will not be able to sell enough to make the 10% commission worthwhile. However, a good salesperson would always choose the commission option since they know they can sell more than $100,000 worth of goods and earn more than the fixed salary. Therefore, the firm cannot determine a good salesperson from a poor one based on their contract choice alone.

Question 18

Under deferred compensation packages,

Accepted Answer

The answer of Under deferred compensation packages,
...

Question 19

Explain why checks on principals might be necessary.

Accepted Answer

The answer of Explain why checks on principals might be...

Question 20

What is one potential problem with offering a choice of contracts to two different employees?

Accepted Answer

Offering a choice of contracts to two different employees may create the risk of the two employees comparing salaries without considering their different risk preferences. This can create jealousy and claims of discrimination, as an employee may feel unfairly compensated compared to their colleague. Therefore, it is important to consider both the salary and risk preferences of each individual employee when offering a choice of contracts.

Quiz 20: Contracts and Moral Hazards