An automobile finance company faces an adverse selection problem if borrowers
A) with a greater chance of defaulting on their car loans get loans from the lender.
B) with no chance of defaulting on their car loans get loans from the lender.
C) choose to get their car loans from a source other than the finance company.
D) choose a 5-year loan as opposed to a 2-year loan.

Question

Quizplus · Accepted Answer

Adverse selection occurs when the party at a disadvantage (in this case, the automobile finance company) ends up dealing with worse risks (borrowers with a greater chance of defaulting) because it cannot distinguish them from better risks. This leads to a higher likelihood of loan defaults, which is detrimental to the company.

An Automobile Finance Company Faces an Adverse Selection Problem If