U1. What problems of moral hazard and/or adverse selection arise in your dealing
ID: 1092764 • Letter: U
Question
U1. What problems of moral hazard and/or adverse selection arise in your dealings with each of the following? In each case, outline some appropriate incentive schemes and/or signaling and screening strategies to cope with these problems. No mathematical analysis is expected, but you should state clearly the economic reasoning of why and how your suggested methods work.
(a) Your financial adviser tells you what stocks to buy or sell.
(b) You consult a realtor when you are selling your house.
(c) You visit your doctor, whether for routine check-ups or treatments.
Explanation / Answer
Ans1. (A) Adverse selection: We need to check the history of the stock, its market trend, market return, the return on other assets, company's financial position etc. then only we can decide whether to buy it or not. If we purchase it without checking its background history then it could be the case of adverse selction, where we make a wrong choice.
(B) Adverse selection: Same in this, we need to hire a real estate agent so that we can sell our house. He can guide us about the market rate so that we can sell it at the good rate.
(C) Moral Hazard: This could be a case of moral hazard. We can buy medical isnurance to prevent high medical costs.
Related Questions
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.