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Unformatted text preview: Chapter 22 Frontiers of Microeconomics WHAT’S NEW IN THE THIRD EDITION: This is an entirely new chapter. LEARNING OBJECTIVES: By the end of this chapter, students should understand: how to examine problems caused by asymmetric information. the market solutions to asymmetric information. why democratic voting systems may not represent the preferences of society. why people may not always behave as rational maximizers. CONTEXT AND PURPOSE: Chapter 22 is the last chapter in the microeconomics portion of the text. It is the second of two unrelated chapters that introduce students to advanced topics in microeconomics. These two chapters are intended to whet their appetites for further study in economics. The purpose of Chapter 22 is to give students a taste of three topics on the frontier of microeconomic research. The first topic addressed is asymmetric information , a situation when one person in an economic relationship has more relevant knowledge than the other person. The second topic is political economy , the application of economic tools to the understanding of the functioning of government. The third topic addressed is behaviorial economics , the introduction of psychology into the study of economic issues. 171 22 FRONTIERS OF MICROECONOMICS 172 ✦ Chapter 22/Frontiers of Microeconomics KEY POINTS: 1. In many economic transactions, information is asymmetric. When there are hidden actions, principals may be concerned that agents suffer from the problem of moral hazard. When there are hidden characteristics, buyers may be concerned about the problem of adverse selection among the sellers. Private markets sometimes deal with asymmetric information with signaling and screening. 2. Although government policy can sometimes improve market outcomes, governments are themselves imperfect institutions. The Condorcet paradox shows that the majority rule fails to produce transitive preferences for society, and the Arrow impossibility theorem shows that no voting scheme will be perfect. In many situations, democratic institutions will produce the outcome desired by the median voter, regardless of the preferences of the rest of the electorate. Moreover, the individuals who set government policy may be motivated by self-interest rather than national interest. 3. The study of psychology and economics reveals that human decision making is more complex than is assumed in conventional economic theory. People are not always rational, they care about the fairness of economic outcomes (even to their own detriment), and they can be inconsistent over time.fairness of economic outcomes (even to their own detriment), and they can be inconsistent over time....
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This note was uploaded on 11/16/2009 for the course ECO 1001 taught by Professor Dr.sum during the Fall '08 term at Al Ahliyya Amman University.
- Fall '08