Typically, borrowers have superior information relative to lenders about the potential returns and risks associated with an investment project. The difference in information is called ________, and it creates the ________ problem.
A) asymmetric information; risk sharing
B) asymmetric information; adverse selection
C) adverse selection; risk sharing
D) moral hazard; adverse selection

Question

Quizplus · Accepted Answer

The situation described in the question is an example of asymmetric information, where one party (the borrower) has more information than the other (the lender). This creates a problem called adverse selection, where the lender may be hesitant to invest due to the uncertainty of the potential risks and returns. Moral hazard refers to a separate problem where one party is incentivized to take on more risk because they are not fully responsible for the consequences. Risk sharing is a potential solution to the problem of adverse selection, but it is not directly related to the concept of asymmetric information.

Typically, Borrowers Have Superior Information Relative to Lenders About the Potential