Market Failure MCQ 2
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Questions and Answers

What is moral hazard in the context of insurance?

  • The lack of incentive to guard against risk when protected from consequences (correct)
  • The process of calculating insurance premiums based on risk
  • The act of selling insurance to individuals who do not need it
  • The risk of not being able to afford insurance premiums
  • What is the main issue with asymmetric information in economic transactions?

  • It leads to higher economic growth
  • It benefits the party with more information
  • It causes market failure due to unequal access to information (correct)
  • It leads to perfect competition
  • What is the result of imperfect information in the second-hand car market?

  • Information imbalance leading to market failure (correct)
  • The market becomes more efficient
  • Buyers have more bargaining power
  • Sellers have to lower their prices
  • What would happen to insurance premiums if insurers had complete information about individuals' risk profiles?

    <p>Premiums would decrease for low-risk individuals</p> Signup and view all the answers

    In the context of insurance, what is the effect of moral hazard on premiums?

    <p>Premiums increase for all customers</p> Signup and view all the answers

    What is a characteristic of a perfectly competitive market?

    <p>No firm has market power</p> Signup and view all the answers

    What is a consequence of a monopoly?

    <p>Higher prices and lower quantity produced</p> Signup and view all the answers

    What is an example of anti-competitive behavior in an oligopolistic market?

    <p>Price fixing</p> Signup and view all the answers

    What is a market structure where firms have varying degrees of market power?

    <p>Oligopolistic market</p> Signup and view all the answers

    What happens to consumer choice in a monopoly?

    <p>It decreases</p> Signup and view all the answers

    Study Notes

    Imperfect Information

    • Moral hazard refers to the lack of incentive to guard against risk when an individual or firm is protected from the consequences.

    Examples of Imperfect Information

    • Insuring a watch may lead to carelessness, as the individual is protected from the financial loss.
    • Insurers may charge higher premiums if they know about this lack of incentive.
    • This lack of information leads to market failure, resulting in higher premiums for all customers.

    Asymmetric Information

    • Definition: A situation in which one party in an economic transaction has more information than the other.
    • Example: Second-hand car market, where the seller has more knowledge about the car's condition than the buyer.
    • Market failure occurs due to this information imbalance.

    Market Structures

    • In a perfectly competitive market, no firm has market power, which benefits consumers.

    Market Power and Failure

    • Sellers in other markets have varying degrees of market power, leading to market failure.
    • A monopoly, where a single firm has full market power, results in higher prices and lower quantity produced, limiting consumer choice.

    Collusion and Anti-Competitive Behavior

    • Oligopolistic markets can engage in collusion, abusing their power through anti-competitive behaviors such as price fixing.

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    Description

    Understand the concept of moral hazard and its effects on markets due to imperfect information, including examples of insuring a watch and how it leads to market failure.

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