Chapter_03_v2 - Part 1 - Getting Started Chapter 3 Tools of...

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Part 1 - Getting Started Chapter 3 – Tools of Normative Analysis 1. a. In this particular insurance market, one would not expect asymmetric information to be much of a problem – the probability of a hurricane is common knowledge. Moral hazard could be an issue – people are more likely to build near a beach if they have hurricane insurance. Still, one would expect the market for hurricane insurance to operate fairly efficiently. b. There is substantial asymmetric information in the markets for medical insurance for consumers and also malpractice insurance for physicians. For efficient consumption, the price must be equal to the marginal cost, and the effect of insurance may be to reduce the perceived price of medical care consumption. That would lead to consumption above the efficient level. Because of the roles of regulation, insurance, taxes, and the shifting of costs from the uninsured to the insured, there is little reason to expect the market to be efficient. c. In the stock market, there is good information and thousands of buyers and sellers. We expect, in general, efficient outcomes. d. From a national standpoint, there is a good deal of competition and information with regards to MP3 players and music. The outcome will likely be efficient for MP3 players and music. However, some firms might exercise some market power through high brand awareness and proprietary downloading systems. e. The private market allocation is likely inefficient without government intervention. Student loan markets may suffer from asymmetric information – the student knows better than the lender whether he will repay the loan or default on it, a form of adverse selection. Government intervention does not “solve” the adverse selection problem in this case (because participation in the student loan program is not compulsory), but it may create a market that would not exist without intervention. f. The market for housing is likely to be relatively efficient. Some inefficiencies may exist, such as asymmetric information—the seller knows more about the house than the buyer—and differentiated products. But, the market has developed to mitigate these inefficiencies. For example, a buyer can employ a home inspector to help him understand more about the quality of the home. Also, a large number of homes on the market increases competition. 2.
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Chapter_03_v2 - Part 1 - Getting Started Chapter 3 Tools of...

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