Suppose that sellers value a good car at $10,500 and a bad car at $5,500,and quality is not observed by the buyers.What is the highest price that risk-neutral buyers will offer for a used car if they ignore adverse selection when 60 of the cars are good?

Question

Quizplus · Accepted Answer

Since buyers are risk-neutral and quality is not observed, they will offer the expected value of the car. 
The probability of getting a good car is 60/100 = 0.6 and the probability of getting a bad car is 40/100 = 0.4. 
Therefore, the expected value of a used car is: 
0.6($10,500) + 0.4($5,500) = $8,700. 
Since buyers will offer the expected value of the car, the highest price they will offer is $8,700. 
The closest option to this value is C) $8,500.

Suppose That Sellers Value a Good Car at $10,500 and a Bad