Deck 18: Asymmetric Information

Question 1

A person starting to drive more recklessly after signing a contract with an automobile insurance company is an example of

A) adverse selection.
B) moral hazard.
C) signaling.
D) screening.

Answer 1

B

Question 2

Explain what may occur when a buyer and a seller have unequal amounts of limited information.Describe two different types of problems that may arise when asymmetric information exists.

Answer 2

Asymmetric information may lead to opportunistic behavior where the informed person benefits at the expense of the person with less information.Adverse selection may occur where the informed person benefits form the less informed person not knowing about an unobserved characteristic of the informed person.Moral hazard may occur if the informed person takes advantage of the less informed person through an unobserved action.

Question 3

Adverse selection can occur when

A) all persons involved in a transaction have full information.
B) one person has information not available to others.
C) post-agreement incentives result in workers shirking.
D) nobody has any information about a particular product.

Answer 3

B

Question 4

A person who practices poisonous snake charming and does not reveal this to her health insurance company before purchasing insurance is an example of

A) moral hazard.
B) adverse selection.
C) signaling.
D) screening.

Question 5

A person who generally drives without a seat belt on does not reveal this to his automobile insurance company before he purchases insurance.This is an example of

A) adverse selection.
B) moral hazard.
C) signaling.
D) screening.

Question 6

If reckless drivers are more likely to buy automobile insurance than safe drivers are,

A) a moral hazard has occurred.
B) adverse selection has occurred.
C) the market for insurance is efficient.
D) then automobile insurance will be fairly priced.

Question 7

Life insurance companies often give applicants a physical examination to prevent

A) the person from dying before obtaining the policy.
B) signaling.
C) adverse selection.
D) profit maximization.

Question 8

The XYZ Co.is hiring salespersons.They will be paid a very attractive hourly rate that is independent of how much they sell.Describe an adverse selection that would take place.Describe a moral hazard that would take place.

Question 9

Opportunism may occur when

A) both parties have limited information.
B) both parties have full information.
C) one party has information the other does not.
D) All of the above.

Question 10

If you sell your DVD player on eBay you will be better informed about the quality of the product than any potential buyer.This is called

A) adverse selection.
B) asymmetric information.
C) moral hazard.
D) opportunistic behavior.

Question 11

In the automobile insurance market,adverse selection occurs when

A) drivers with greater risks buy a policy with large deductibles.
B) drivers with greater risks buy a policy with no deductibles.
C) uninsured drivers drive recklessly.
D) insured drivers drive recklessly.

Question 12

Adverse selection occurs when there is

A) full information.
B) unobserved behavior.
C) an unobserved characteristic.
D) a worker who shirks because his boss does not watch him.

Question 13

If the market interest rate is 5% and a bank advertises loans at 12%,the bank will receive

A) no applications.
B) applications from mostly low-risk borrowers.
C) applications from mostly high-risk borrowers.
D) a moral hazard.

Question 14

If a life insurance company does not require a medical exam of its policyholders,it is most likely that the company

A) charges above-average premiums.
B) charges below-average premiums.
C) charges no premiums.
D) has only very healthy policyholders.

Question 15

A person who starts practicing poisonous snake charming after signing a contract with a health insurance company is an example of

A) moral hazard.
B) adverse selection.
C) signaling.
D) screening.

Question 16

If a student achieves a high SAT score,this

A) sends a signal to a college that the applicant will be a good college student.
B) does not act as a screening device.
C) is a moral hazard.
D) provides a college with no information.

Question 17

Assume Health Insurance is provided universally by the government.This would

A) eliminate the problems of adverse selection.
B) result in adverse selection.
C) eliminate the problems of moral hazard.
D) All of the above.

Question 18

Adverse selection occurs when

A) a person takes more risks that are not known to the life insurance company because he has life insurance.
B) a person buys life insurance because he has a risky lifestyle that is not known to the life insurance company.
C) a person is a risk lover.
D) pregnant women with health insurance make more doctor visits than uninsured pregnant women.

Question 19

Adverse selection occurs when an agreement encourages undesirable behavior.

Question 20

Used car buyers will believe that a car is of good quality when the seller signals the car's high quality by offering a warranty when

A) a warranty on a lemon is costly to the seller.
B) warranties are offered on all cars.
C) warranties are only offered on lemons.
D) a warranty on a good car is a false signal.

Question 21

A physical examination is NOT a good screening device for life insurance companies if

A) life-threatening diseases are usually undetected.
B) doctors cannot be easily bribed to write a good report.
C) medical history is a good predictor of life expectancy.
D) one's current state of health is a good predictor of life expectancy.

Question 22

The market for used cars is shown in the above figure.Buyers cannot tell whether any given car is a lemon.Forty percent (40%)of all cars are lemons.Which of the following statements is true?

A) All of the cars will be sold at $1,600.
B) No cars will be sold.
C) Only lemons will be sold at $1,600.
D) Only lemons will be sold at $1,000.

Question 23

The market for used cars is shown in the above figure.Neither buyers nor sellers can tell whether any given car is a lemon.Forty percent (40%)of all cars are lemons.Which of the following statements is true?

A) All of the cars will be sold at $1,600.
B) Sellers of good-quality cars are implicitly subsidizing the sellers of lemons.
C) The information is symmetric and the market is efficient.
D) All of the above.

Question 24

The market for used cars is shown in the above figure.Buyers cannot tell whether any given car is a lemon.Ten percent (10%)of all cars are lemons.Which of the following statements is true?

A) All of the cars sell for $1,900.
B) Only lemons are sold for $1,900.
C) Only lemons are sold for $1,000.
D) Only good cars will be sold for $2,000.

Question 25

How can a warranty at the seller's expense signal that a product is of high quality?

Question 26

Asymmetric information will always cause

A) efficiency problems.
B) equity problems.
C) Both A and B.
D) None of the above.

Question 27

If bad drivers can usually avoid being ticketed by the police,then insurance companies will

A) use one's driving record as a signal.
B) use one's driving record as a screening device.
C) not be able to use one's driving record as a screening device.
D) request driving records directly from the police and not from the individual applicant.

Question 28

Which of the following reduces the effects of asymmetric information?

A) repeat purchases
B) warranties
C) building a reputation
D) All of the above.

Question 29

A consumer is likely to avoid adverse selection and get a high-quality lunch at

A) a snack bar at a traveling carnival.
B) a vendor who parks her cart at a different location every noon.
C) a restaurant in the center of a business district.
D) a restaurant located next door to Disneyland.

Question 30

The market for used cars is shown in the above figure.Buyers cannot tell whether any given car is a lemon.Ten percent (10%)of all cars are lemons.Which of the following statements is true?

A) All of the cars will be sold.
B) No cars will be sold.
C) Only lemons will be sold.
D) Only good cars will be sold.

Question 31

Explain why some people who are applying for a job at a bank dress up,arrive early,and have their paperwork neatly completed for the job interview.

Question 32

Signals can help prevent adverse selection as long as a false signal is costly to the person sending it.

Question 33

With asymmetric information,firms might be reluctant to improve the quality of their products because

A) it costs them more to produce the better quality product.
B) they are not able to completely capture the benefits of the improvement.
C) consumers do not value the better product.
D) consumers are better informed about the product and value the new product less.

Question 34

The market for used cars is shown in the above figure.Buyers cannot tell whether any given car is a lemon.Forty percent (40%)of all cars are lemons.Which of the following statements is true?

A) All of the cars will be sold.
B) No cars will be sold.
C) Only lemons will be sold.
D) Ten percent of the used cars sold will be lemons.

Question 35

The market for used cars is shown in the above figure.Neither buyers nor sellers can tell whether any given car is a lemon.Ten percent (10%)of all cars are lemons.Which of the following statements is true?

A) All of the cars will be sold at $1,900.
B) No cars will be sold.
C) Only lemons will be sold at $1,600.
D) Only lemons will be sold at $1,000.

Question 36

The requirement that all drivers must carry auto insurance reduces

A) moral hazard.
B) the effectiveness of signaling.
C) adverse selection.
D) the chance of auto accidents.

Question 37

The market for used cars is shown in the above figure.Neither buyers nor sellers can tell whether any given car is a lemon.Forty percent (40%)of all cars are lemons.Which of the following statements is true?

A) All of the cars will be sold at $1,600.
B) No cars will be sold.
C) Only lemons are sold for $1,000.
D) Only good cars will be sold for $2,000.

Question 38

The market for used cars is shown in the above figure.Buyers cannot tell whether any given car is a lemon.Ten percent (10%)of all cars are lemons.Which of the following statements is true?

A) Only lemons are sold for $1,900.
B) Only lemons are sold for $1,000.
C) Buyers of lemons will pay too much for their cars.
D) Buyers of good cars will pay too much for their cars.

Question 39

The market for used cars is shown in the above figure.Buyers cannot tell whether any given car is a lemon.Forty percent (40%)of all cars are lemons.However,sellers can switch to selling lemons at lower costs.Which of the following statements is true?

A) Only lemons are sold for $1,600.
B) Only lemons are sold for $800.
C) All the sellers of good cars will switch to selling lemons.
D) 40% buyers will get lemons.

Question 40

Some companies subject their applicants to extensive tests.Why?

A) to reduce the informational asymmetry between the firm and the applicant
B) to screen the applicant to avoid the problem of adverse selection
C) to gather more information about the applicant
D) All of the above.

Question 41

In the tourist-trap model,a consumer might pay more than marginal cost for a good sold in a competitive market if the cost of possibly finding the good cheaper is more than the markup over marginal cost.

Question 42

Explain how product liability laws can reduce adverse selection.

Question 43

If there is zero search cost,then in the presence of asymmetric information,competitive firms will

A) charge the monopoly price.
B) charge the competitive price.
C) charge zero price.
D) shut down.

Question 44

New smart phone applications are developed to help consumers find the cheapest prices in the neighborhood.As a result,

A) firms get greater market power.
B) consumers' search costs are greatly lowered.
C) firms are able to charge higher prices.
D) only smart markets become more competitive.

Question 45

New smart phone applications are developed to help consumers find the cheapest prices in the neighborhood.Therefore,

A) the local competitive will become more intensive.
B) the prices of goods listed in the application will be lowered.
C) price discrimination will occur against consumers without a smart phone or this application.
D) All of the above.

Question 46

A downtown diner daily serving the same business people will be more likely to serve a tasty lunch than a snack bar at a tourist attraction.

Question 47

The Internet has made it possible to compare lots of prices without incurring a lot of cost.This

A) has given firms added market power to price discriminate.
B) has significantly reduced search cost and made markets more competitive.
C) has enabled firms to charge higher prices to consumers with computers.
D) has only affected technology markets.

Question 48

With asymmetric information among consumers and positive search costs c,all the other firms in the market are charging a monopoly price Pm.A firm may lower its price

A) by less than c to attract more buyers when there are many firms in the market.
B) by more than c to attract more buyers when there are many firms in the market.
C) by less than c to attract more buyers when there are few firms in the market.
D) by more than c to attract more buyers when there are few firms in the market.

Question 49

In a competitive market with large search costs,many firms,and asymmetric information,why is the monopoly price the only possible single-price equilibrium?

Question 50

The market for used cars is shown in the above figure.Buyers cannot tell whether any given car is a lemon.The percent of all cars that are lemons is θ.What value of θ is necessary for all cars to be sold?

Question 51

The market for used cars is shown in the above figure.Buyers cannot tell whether any given car is a lemon.For all cars offered for sale to be sold,the percent of all cars that are lemons is θ.What happens to θ if car buyers incur a $100 transaction cost when buying a used car?

Question 52

Competitive firms are able to set price above marginal cost when

A) the markup is less than the cost of going to another store.
B) the markup is greater than the cost of going to another store.
C) all consumers have full information.
D) consumers know what other stores are charging.

Question 53

If consumers have limited information about price and search costs exist,then

A) the result must be that all firms will charge the same price.
B) the monopoly price must result.
C) the full-information, competitive price is not an equilibrium.
D) the difference in prices between firms will be greater than the search cost.

Question 54

If sellers of good cars and sellers of lemons both offer a warranty on their cars,consumers will then be able to tell which cars are the lemons.

Question 55

Empirical studies conclude that advertising

A) raises prices in all markets.
B) can reduce the prices of many goods.
C) reduces the prices on all goods.
D) has no impact on prices.

Question 56

With asymmetric information among consumers and positive search costs,a firm may

A) raise its price above the monopoly price.
B) price at the monopoly level.
C) price at the competitive level.
D) None of the above.

Question 57

As long as there is asymmetric information among consumers and positive search cost,if price is below the monopoly price and the same across all firms,then a competitive firm

A) can always profit from raising its price.
B) can always profit from lowering its price.
C) can profit from raising its price but by no more than the search cost.
D) can profit from lowering its price but by no more than the search cost.

Question 58

When consumers have asymmetric information and when search costs and the number of firms are large,a single-price equilibrium in a competitive market

A) is impossible.
B) occurs when price equals average cost.
C) occurs when price equals marginal cost plus the search cost.
D) occurs when the price is the price a monopoly would set.

Question 59

The market for used cars is shown in the above figure.Ten percent (10%)of all cars are lemons.A mechanic is offering to inspect a car for sale and certify that a car is not a lemon.If car sellers are risk neutral,what is the highest price that a car seller would pay for such a service? Who would buy this service?

Question 60

the Internet has made it possible to compare lots of prices without incurring a lot of cost.If internet access is unequally distributed throughout the population one would expect

A) consumers with internet access to pay a higher price.
B) consumers without internet access to pay a lower price.
C) price discrimination against consumers without internet access.
D) firms to charge the same price to all consumers.

Question 61

Auto insurance rates are lower for young women relative to young men.An unusually reckless young woman driver benefits from this

A) statistical discrimination.
B) signal.
C) screening.
D) majority voting.

Question 62

Investment in safety at the firm level poses a prisoners' dilemma because

A) if each firm plays its dominant strategy, joint profits are maximized.
B) if each firm plays its dominant strategy, joint profits are not maximized.
C) neither firm has a dominant strategy.
D) the Nash equilibrium is not achieved.

Question 63

If low-quality workers are unable to obtain a college degree,then a separating equilibrium can occur if

A) the cost of obtaining a degree is less than the wage premium paid to those who have obtained the degree.
B) the cost of obtaining a degree is greater than the wage premium paid to those who have obtained the degree.
C) the cost of obtaining a degree is zero.
D) the wage premium paid to those who have obtained the degree is positive.

Question 64

If diplomas work efficiently in signaling productive capabilities to employers,the resulting equilibrium

A) will be a separating equilibrium.
B) will be a pooling equilibrium.
C) will always be inefficient.
D) will never be efficient.

Question 65

Screening and signaling in the labor market are inefficient

A) unless college costs are relatively low.
B) unless they result in a better job match.
C) because the benefits are spread out over many firms.
D) because they raise the wage paid to all workers.

Question 66

Explain why high priced lawyers may support an industry ban on price advertising for lawyers.

Question 67

If a college degree is used to signal high ability,but the cost of a college degree is relatively high,

A) a separating equilibrium is achieved.
B) a pooling equilibrium is achieved.
C) even low-ability workers will attend college.
D) the share of high-ability workers must be 1.

Question 68

Firms under-invest in safety because

A) firms are not concerned with safety.
B) firms do not want their plants to be safe.
C) firms are risk averse.
D) firms do not enjoy all of the benefits from investments in safety.

Question 69

If getting accepted into college is very difficult because of high standards of intelligence and ability,but students learn absolutely nothing while in college,it is most likely that

A) they will not be hired upon graduation.
B) attendance sends a signal to employers regarding ability.
C) nobody will want to go to college.
D) a college degree is not a credible signal.

Question 70

The above figure shows the payoff to two firms in an industry deciding to make an investment in worker safety.Neither firm will make the investment because

A) each can benefit from the other firm incurring the costs.
B) there is no benefit to making the investment.
C) each firm pays for the other firm's investment.
D) society does not care about worker safety.

Question 71

Employers verify the facts of potential employees' resumes to avoid

A) signaling.
B) screening.
C) cheap talk.
D) moral hazard.

Question 72

In a company,if high-ability workers get paid $80,000,while low-ability workers get paid $50,000,the education (MBA)that can qualify the workers as high-ability ones cost $20,000.What's the highest share of high-ability workers to get a separating equilibrium?

A) 1/4
B) 1/3
C) 1/2
D) 1

Question 73

Government mandated safety standard within firms

A) will always decrease efficiency.
B) can increase efficiency by avoiding a prisoner's dilemma outcome.
C) are unnecessary because of asymmetric information.
D) will create unfair competition among firms.

Question 74

Some software firms require that applicants have passed certain standardized certification tests before being hired.This policy is necessary when

A) cheap talk does not provide a credible signal.
B) cheap talk does provide a credible signal.
C) the interests of the firm and the applicant converge.
D) the applicant is honest about her abilities.

Question 75

A pooling equilibrium occurs when

A) dissimilar workers are paid alike.
B) firms can distinguish between workers of different qualities.
C) workers of the same quality are paid different wages.
D) all workers are overpaid equally.

Question 76

Cheap talk works at placing workers in the right job as long as

A) the interests of the worker and the firm coincide.
B) all workers want the most demanding jobs regardless of their abilities.
C) workers have different ability levels that are unknown to firms.
D) firms are not profit maximizers.

Question 77

The above figure shows the payoff to two firms in an industry deciding to make an investment in worker safety.The dominant strategy for each firm

A) is to do the opposite of the other firm.
B) is to make the investment.
C) is to not make the investment.
D) does not exist.

Question 78

The above figure shows the payoff to two firms in an industry deciding to make an investment in worker safety.The Nash equilibrium

A) is for just one of the firms to make the investment.
B) is for both firms to make the investment.
C) is for neither firm to make the investment.
D) does not exist.

Question 79

Workers do not know the safety records at individual firms; they only know industry averages.As a result,

A) each firm tries to outdo each other in making safety improvements.
B) each firm has the incentive to be the safest in its industry.
C) the equilibrium level of safety is less than optimal.
D) the optimal level of safety is achieved.

Question 80

When relatively few workers have high ability,

A) they will settle for the average wage.
B) they will want to signal their ability.
C) the premium for high ability is less than when most workers have high ability.
D) they do not need to signal their ability.