Suppose that there are two types of houses for sale: those with solid foundations and those with cracked foundations. In all other respects, the two types of houses are identical. Houses with solid foundations are worth $200,000, while those with cracked foundations are worth $200,000 minus the $20,000 to fix the crack, or $180,000. Sellers know which type of house they have, but buyers cannot detect whether the foundation has a crack. Suppose that 80 percent of the houses for sale have a solid foundation and 20 percent of the houses for sale have a cracked foundation. In the long run, we would expect:
A)80 percent of the houses for sale to have a solid foundation, 20 percent to have a cracked foundation, and houses to sell for $196,000.
B)100 percent of the houses for sale to have a cracked foundation and to sell for $180,000.
C)100 percent of the houses for sale to have a solid foundation and to sell for $200,000.
D)100 percent of the houses for sale to have a cracked foundation and to sell for more than $180,000.

Question

Quizplus · Accepted Answer

Eventually, all of the owners of houses with solid foundations will take their houses off the market because buyers will offer a price below the home's true value. The market will then consist solely of houses with cracked foundations that sell for $180,000.

Suppose That There Are Two Types of Houses for Sale