Pedro, who knows nothing about construction, paid Benito to remodel a room in his house. Two years later, one wall in the remodeled room crumbled because Benito used poor-quality materials. This illustrates which economic problem?

Question

Quizplus · Accepted Answer

This situation illustrates moral hazard, which occurs when one party engages in risky behavior because they know that another party will bear the costs of that behavior. In this case, Benito used poor-quality materials because he knew that Pedro, who knows nothing about construction, would not be able to detect the poor quality and would bear the costs of any problems that arose later on.

Pedro, Who Knows Nothing About Construction, Paid Benito to Remodel