Scenario: Tom wants to buy a used iPhone from an online exchange Web site. He expects 50 percent of the used phones to have some defect. He is willing to pay up to $80 for a phone without any defect and $0 for a defective phone. An owner of a good-quality iPhone is likely to sell his phone if he gets a price of $70.
-Refer to the scenario above.Which of the following problems is likely to occur in this market?
A) The fallacy of composition
B) Moral hazard
C) Adverse selection
D) The free-rider problem

Question

Quizplus · Accepted Answer

The problem that is likely to occur in this market is adverse selection. This is because Tom is aware of the fact that 50 percent of the used phones he considers are defective. This makes him wary of purchasing a used phone, as he cannot differentiate between those that are defective and those that are not. Consequently, the market is composed mainly of sellers who possess defective phones and are aware of this, and those who have defect-free phones and are asking a much higher price for them. As a result, Tom may be forced to pay a higher price for a defect-free phone and may be left with a defective item if he chooses to buy a lower-priced phone. This demonstrates adverse selection in the market.

Scenario: Tom Wants to Buy a Used IPhone from an Online