Lecture12 - 13 - agency moral hazard adverse selection

3 intuition 4 intuition

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Unformatted text preview: ple, management knows the firm’s future profitability, but outside investors do not. They lead to Adverse Selection. 3 Intuition 4 Intuition Adverse selection suggests that speeders will be more likely to sign up for this kind of insurance Moral hazard suggests they'll have little incentive to slow down once they're insured. These problems mean that the insurance company would have to pay out a lot of claims. The problems of adverse selection and moral hazard plague many insurance markets. 5 Lecture 12: Moral Hazard Outline: Conceptual problem Formal analysis The separation of ownership and control Various kinds of agency problems Executive compensation Problems with incentive contracts 6 Moral Hazard and the PrincipalAgent Problem One person, the principal, wants to induce another person, the agent, to perform certain tasks that are useful for the principal but costly to the agent. The main problem is that the principal cannot observe the actions taken by the agent. However, he can observe some output variable that...
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