Questions and Answers
What is moral hazard in the context of insurance?
What is the main issue with asymmetric information in economic transactions?
What is the result of imperfect information in the second-hand car market?
What would happen to insurance premiums if insurers had complete information about individuals' risk profiles?
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In the context of insurance, what is the effect of moral hazard on premiums?
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What is a characteristic of a perfectly competitive market?
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What is a consequence of a monopoly?
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What is an example of anti-competitive behavior in an oligopolistic market?
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What is a market structure where firms have varying degrees of market power?
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What happens to consumer choice in a monopoly?
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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.
