Moral hazard occurs when:
A) the principal purposely misleads the agent to obtain higher profits.
B) limited information causes uncertainty for the agent.
C) an agent pursues his own interests to the detriment of the principal.
D) self-selection is not possible
E) an agent has incomplete information when acting on behalf of the principal.

Question

Quizplus · Accepted Answer

Moral hazard occurs when an agent pursues his own interests and engages in riskier behavior because he does not bear the full consequences of his actions. This creates a conflict of interest between the agent and the principal, who may suffer losses as a result of the agent's actions. Limited information, incomplete information, and self-selection are related but different concepts. The principal purposely misleading the agent would be an example of agency problems, not moral hazard.

Moral Hazard Occurs When