Question 1

Which of the following best describes the concept of asymmetric information in a market transaction?

Accepted Answer

One party in a transaction has more or better information than the other party.

Question 2

A person who purchases health insurance and then begins engaging in riskier behavior, such as snake charming, is demonstrating which economic problem?

Accepted Answer

Moral hazard

Question 3

Suppose a life insurance company uses physical examinations as a screening device. Under which condition would this screening device be ineffective?

Accepted Answer

Life-threatening diseases are usually undetected by the examination.

Question 4

In the context of automobile insurance, which scenario best illustrates adverse selection?

Accepted Answer

Drivers with greater risks buy a policy with no deductibles.

Question 5

If adverse selection exists in a market, what is the likely impact on consumer and producer surplus?

Accepted Answer

It reduces consumer and producer surplus.

Question 6

A used car seller offers a warranty to signal the car's high quality. Under which condition will buyers believe the signal?

Accepted Answer

A warranty on a lemon is costly to the seller.

Question 7

If a government provides universal health insurance, what is the effect on adverse selection?

Accepted Answer

It eliminates the problems of adverse selection.

Question 8

If bad drivers can usually avoid being ticketed by the police, how does this affect insurance companies' ability to use driving records?

Accepted Answer

They cannot use one's driving record as a screening device.

Question 9

A consumer is most likely to avoid adverse selection and obtain a high-quality lunch at which location?

Accepted Answer

A restaurant in the center of a business district.

Question 10

If college attendance does not increase students' knowledge but is difficult to achieve due to high standards, what does a college degree most likely represent to employers?

Accepted Answer

Attendance sends a signal to employers regarding ability.

Question 11

Suppose a health insurance company wants to reduce moral hazard among its clients. Which of the following is the most effective strategy?

Accepted Answer

Increase deductibles and co-payments for risky behaviors.

Question 12

Which of the following best describes the difference between adverse selection and moral hazard?

Accepted Answer

Adverse selection is about hidden information before a contract, while moral hazard is about hidden actions after a contract.

Question 13

A company offers a warranty on its electronics to signal quality. If the cost of honoring warranties on defective products is $$500 per unit and the profit margin on high-quality products is 600 $$per unit, what is the minimum profit margin on lemons (defective products) for the warranty to be a credible signal?

Accepted Answer

Less than $500

Question 14

If a market is characterized by asymmetric information, which of the following is most likely to occur?

Accepted Answer

Low-quality goods drive high-quality goods out of the market (the 'lemons problem').

Question 15

Suppose an insurance company uses a screening device that is costly for high-risk individuals but inexpensive for low-risk individuals. What is the likely outcome?

Accepted Answer

Low-risk individuals will be more likely to pass the screening and obtain insurance.

Question 16

Which of the following is an example of signaling in the labor market?

Accepted Answer

Workers obtaining advanced degrees to demonstrate their ability.

Question 17

If a restaurant in a business district consistently attracts repeat customers, what does this suggest about the information available to consumers?

Accepted Answer

Consumers use repeat business as a signal of high quality.

Question 18

Suppose a health insurance company cannot observe the health status of applicants. Which of the following is most likely to occur?

Accepted Answer

Unhealthy individuals are more likely to buy insurance, leading to adverse selection.

Question 19

A firm wants to hire only high-ability workers but cannot directly observe ability. Which of the following is a strategy the firm can use to reduce asymmetric information?

Accepted Answer

Require applicants to complete a challenging job-related test.

Question 20

If a market suffers from the 'lemons problem,' what is the likely effect on the price and quality of goods sold?

Accepted Answer

Prices will fall and the average quality of goods sold will decrease.

Microeconomics Study Guide: Asymmetric Information, Adverse Selection, Moral Hazard, and Signaling

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