Tom owns a small business in Sioux Falls.He travels frequently,meeting with important customers,attending conferences,and the like.Tom hired Susan to work in the Sioux Falls office as the day-to-day general manager of the business.
A)This is a moral hazard problem since Susan may not work as hard as Tom would like.
B)Tom choosing to hire Susan is an example of adverse selection since it is possible that Susan will not work as hard as Tom expects.
C)Tom will most likely pay Susan a lower salary than normal since Tom will not be there to monitor Susan's work effort, and since Susan will not likely work hard knowing Tom cannot monitor her effort.
D)The Condorcet Paradox implies that Susan will not work as hard as Tom would like even though he will likely pay her an above equilibrium wage.

Question

Quizplus · Accepted Answer

The situation described is one of moral hazard, where the actions of the agent (Susan) may not align with the interests of the principal (Tom) since he cannot fully monitor her work effort.

Answer: None of the other choices are correct.

Adverse selection refers to the problem of selecting individuals who have high-risk characteristics (such as poor work ethic) before hiring them, which is not the case here. Tom's salary decisions for Susan are not necessarily linked to his ability to monitor her effort, and the Condorcet Paradox does not apply to this situation.

Tom Owns a Small Business in Sioux Falls