ct4e sm ch24 micro econ.docx - 1 CHAPTER 24 Modern...

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CHAPTER 24
Modern Principles of Economics:
Asymmetric Information: Moral Hazard and Adverse
Selection
Facts and Tools
1. Determine whether the situations below represent problems caused by asymmetric information. If so,
determine whether they represent problems of moral hazard or adverse selection.
a. Unrest in the Middle East causes oil speculators to buy up oil futures, driving gasoline prices higher.
b. Karol is halfway to work before he realizes that he forgot to lock the back door. Because he has
renter’s insurance, he decides it is not worth being late to work just to go home to lock the door.
c. Joanne applies for a job as a part-time manager at a fast-food restaurant. Her MBA makes her
incredibly overqualified for the job, yet the position goes to someone else who doesn’t even have a
college degree.
d. Frances lives in an apartment above a restaurant, and her apartment always smells like burgers and
fries. She has tried unsuccessfully to get the restaurant owner to remedy the problem.
e. The potential costs of long-term care (such as a nursing home stay) can be very high and are also very
uncertain. Despite this, the private market for long-term care in the United States has remained fairly
small.
Solution
2. Describe how the following facts represent solutions to problems of asymmetric information.
b. Your car insurance coverage probably includes a deductible—an amount that you have to pay out of
pocket before your insurance coverage kicks in.

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c. Many states have laws like Virginia’s that give customers the right to keep or inspect parts that are
removed by an auto mechanic.
d. For many couples, weddings are lavish affairs that cost tens of thousands of dollars and are attended
by hundreds of guests.
Solution