Question 1

When one party to a transaction knows something the other doesn't, there is

Accepted Answer

Private information refers to information that is known by one party in a transaction but not by the other party. This can create an information asymmetry which can lead to one party having an advantage over the other in the transaction.

Question 2

Private information exists when

Accepted Answer

Private information exists when one party has access to information that the other party does not have. This creates an information asymmetry that can affect the outcome of the transaction.

Question 3

Another name for private information is _____ information.

Accepted Answer

C

Question 4

Private information creates _____ between parties involved in a transaction.

Accepted Answer

Private information creates information asymmetry, meaning that one party has information that the other party does not have. This can create issues in a transaction because the party without the information may not be able to make an informed decision or negotiate effectively.

Question 5

When buyers cannot tell whether a product is high or low quality before making the purchase

Accepted Answer

When buyers cannot tell whether a product is high or low quality before making the purchase, they are likely to assume that all products are of similar quality and will be willing to pay the same price for both high-quality and low-quality units. Therefore, both high-quality and low-quality units of the product will sell for the same price.

Question 6

When buyers cannot tell whether a product is high or low quality before making the purchase, high-quality items end up selling for _____, and low-quality items end up selling for _____ than if the buyer knew the quality before purchase.

Accepted Answer

When there is asymmetric information about the quality of a product, buyers tend to be risk-averse and are unwilling to pay a premium price for a good that may turn out to be low-quality. As a result, high-quality items will sell for less than they would if buyers knew the quality before purchase, and low-quality items will sell for more. Therefore, the correct answer is B, where high-quality items end up selling for less, and low-quality items end up selling for more.

Question 7

Sellers may choose not to sell a high-quality item when buyers are _____ to tell the quality in advance, and so the buyers _____.

Accepted Answer

When buyers are not able to tell the quality in advance, sellers have an incentive to sell a low-quality item at a high price, knowing that the buyer cannot differentiate. However, if buyers are able to tell the quality in advance, sellers would face a market where low-quality products are not in demand, and so they would choose to sell only high-quality items at a high price. Therefore, if buyers are not able to tell the quality in advance, they may not be willing to pay the price of a high-quality product, as they cannot be assured they are receiving what they are paying for.

Question 8

A product that has more problems or inferior quality than the average unit available is known as

Accepted Answer

The term "lemon" is commonly used to describe a product that has defects or inferior quality compared to other units of the same product. This term is often associated with cars, but can be used to describe any type of product that fails to meet the expected standards.

Question 9

When buyers cannot assess the quality of a product before buying, owners of _____ units are more likely to choose to sell their units, and owners of _____ units are less likely to choose to sell their units.

Accepted Answer

This scenario describes the "lemons problem," where sellers of low-quality goods (lemons) are more likely to sell because buyers cannot differentiate between high and low-quality products. High-quality product owners are less likely to sell because they cannot get a fair price.

Question 10

Owners of _____ goods are more likely to sell their units than owners of other types of goods when buyers cannot observe quality before they buy.

Accepted Answer

Owners of low-quality goods are more likely to sell their units than owners of other types of goods when buyers cannot observe quality before they buy. This is because buyers may not be willing to take the risk of purchasing a low-quality good if they cannot assess its quality beforehand.

Question 11

When buyers cannot judge the quality of a good before buying, the market tends to be skewed toward

Accepted Answer

When buyers cannot judge the quality of a good before buying, sellers of lower-quality goods are more likely to participate in the market, as buyers cannot differentiate between high and low quality. This leads to a market skewed toward lower-quality units, a phenomenon known as adverse selection.

Question 12

Adverse selection of sellers means that each of the following occurs EXCEPT

Accepted Answer

Adverse selection of sellers typically leads to a market where low-quality goods dominate because high-quality goods cannot fetch a price that reflects their value, causing sellers of high-quality goods to exit the market. It does not mean that high-quality goods sell at higher prices; instead, it's difficult for them to be properly valued, leading to a market failure.

Question 13

More low-quality goods are a large share of the market when buyers cannot observe quality. This is known as

Accepted Answer

Adverse selection of sellers occurs when buyers cannot accurately assess the quality of a product, leading to a market where low-quality goods dominate because sellers of high-quality goods exit the market.

Question 14

The adverse selection of sellers is the

Accepted Answer

Adverse selection refers to the phenomenon where the mix of goods produced or sold in a market is skewed towards lower quality when buyers cannot observe quality. This happens because sellers of high-quality goods may be unwilling to sell at a lower price due to the lack of differentiation between their product and lower-quality products. As a result, buyers may end up paying for lower-quality goods even though they are willing to pay more for higher quality.

Question 15

Inga wants to buy a used computer but is nervous about the risk of buying one that could be a lemon. What will induce Inga to buy?

Accepted Answer

Inga will be induced to buy if the price is set at the level of a low-quality used computer, as this reduces her financial risk in case the computer turns out to be a lemon. This pricing strategy can help overcome her concerns about the potential quality issues of the used computer.

Question 16

Benjamin sells used cell phones, and buyers find it difficult to assess the quality of this product before buying. Which of the following statements is NOT consistent with the situation in Benjamin's market?

Accepted Answer

Adverse selection typically refers to a situation where sellers have more information about the product quality than buyers, leading to high-quality goods being driven out of the market. It does not refer to the selection of buyers but rather to the quality of goods being sold.

Question 17

Assume that the value of a high-quality used phone of a particular model is $200. The value of a low-quality model of the same used phone is $100. Assume that 15% are low-quality models and 85% of them are high quality. What will be the case in the market for used phones of that model?

Accepted Answer

Due to information asymmetry, buyers may be unable to distinguish between high and low-quality phones, leading them to offer a price closer to the average value. This can result in more low-quality phones being sold than their actual proportion in the market.

Question 18

When sellers have private information, _____ can result.

Accepted Answer

Adverse selection can occur when sellers have private information, as they may be more likely to offer goods or services that are lower quality or have hidden defects, which can result in a situation where buyers are uncertain about what they are purchasing and eventually decrease the demand.

Question 19

Which of the following statements is correct when sellers know more about quality than buyers?

Accepted Answer

When sellers have more information about product quality than buyers, price alone may not reliably indicate quality due to information asymmetry.

Question 20

When quality is not observable by buyers, it is difficult for buyers to purchase

Accepted Answer

When quality is not observable, buyers have a difficult time purchasing high-quality products because they cannot distinguish between high and low-quality products. This may lead to a situation where all products on the market are perceived to be of low quality, meaning that buyers may not be willing to pay a higher price for a product that they cannot be sure is actually of higher quality. Therefore, purchasing high-quality products becomes challenging for buyers.

Quiz 20: Decisions With Private Information