Econ Final Exam

1.

1 point

If grades are to be a successful signal to potential employers of a student’s qualities, then higher grades must be

often referred to in the hiring process.

easy for employers to check.

easier for low-productivity students to earn than for high-productivity students to earn.

easier for high-productivity students to earn than for low-productivity students to earn.

2.

1 point

Which of the following is TRUE about producers’ willingness to offer warranties on prod- ucts?

Producers are equally likely to offer warranties on high-quality and low-quality goods.

Producers are more likely to offer warranties on high-quality goods, because the expected cost of repairs is lower for those goods.

Producers will not offer warranties in any market that suffers from asymmetric in- formation.

Producers are more likely to offer warranties on low-quality goods, because without the signal that the warranty provides, the low-quality good wouldn’t sell.

3.

1 point

What is the advantage of the standard deviation over the average deviation?

Because the standard deviation requires squaring of deviations before further com- putation, positive and negative deviations do not cancel out.

The standard deviation removes the units from the calculation, and delivers a pure number.

Because the standard deviation does not require squaring of deviations, it is easy to tell whether deviations are positive or negative.

The standard deviation expresses the average deviation in percentage terms, so that different choices can be more easily compared.

4.

1 point

Actual insurance premiums charged by insurance companies may exceed the actuarially fair rates because:

the insurance companies have monopoly rights issued by state regulators.

there are administrative costs and other expenses that must be covered by the premia.

the insurance companies are risk averse.

insurance companies tend to over-state the risks they face.

5.

1 point

Use the following statements to answer this question:

I. Based on the principal-agent framework in economics, we know that the lack of incentive compatibility may arise in private firms but not in public agencies or government bureaus.

II. The key problem in principal-agent situations is the principal’s fundamental inability to oversee or supervise the agent.

II is true and I is false.

I and II are true.

I is true and II is false.

I and II are false.

6.

1 point

The principal-agent problem of ownership vs. control of the corporation arises when owners and managers

are the same people.

pursue objectives that differ from those their customers wish them to pursue.

pursue objectives that differ from those their workers wish them to pursue.

pursue different objectives.

pursue objectives that differ from those the government wishes them to pursue.

7.

1 point

Because the presence of a warranty for a good is a signal that the good is of high quality,

consumers are willing to buy goods if and only if the goods come with warranties.

consumers are willing and able to pay more for a good that carries a warranty.

producers must make warranties available on all goods.

producers do not need to charge extra for warranties.

8.

1 point

Used cars sell for much less than new cars because

of imperfect competition in the automobile industry.

physical depreciation of used cars is very high.

buyers know much more about the quality of used cars than sellers do.

sellers know much more about the quality of used cars than buyers do.

9.

1 point

The principal-agent problem in corporations exists because the managers of a firm

are generally unable to monitor workers, who do not care about the profits due the managers.

are generally unable to do the monitoring that would result in the firm’s avoiding adverse selection.

may pursue their own goals even when the result is lower profit for owners.

may know how to operate the business better than absentee owners do, and yet not be allowed to.

are generally unable to do the monitoring that would result in the firm’s avoiding moral hazard problems.

10.

1 point

One reason individuals are willing to pay for information in uncertain situations is that information

is a method of insurance.

always reduces the difference between the probabilities of possible outcomes.

can reduce uncertainty.

is a way to diversify.

11.

1 point

A risk-averse individual prefers

outcomes with higher probabilities assigned to more favorable outcomes, no matter what the outcomes are.

outcomes with highly divergent probabilities so that one of the outcomes is almost certain.

the utility of expected income of a risky gamble to the expected utility of income of the same risky gamble.

the expected utility of income of a risky gamble to the utility of expected income of the same risky gamble.

12.

1 point

The object of diversification is

to reduce fluctuations in income, but not to reduce risk.

to reduce risk, but not to reduce fluctuations in income.

to reduce risk and fluctuations in income.

neither to reduce risk, nor to reduce fluctuations in income.

13.

1 point

Assume that two investment opportunities have identical expected values of $100,000. Investment A has a variance of 25,000, while investment B’s variance is 10,000. We would expect most investors (who dislike risk) to prefer investment opportunity

B because it has less risk.

A because it provides higher potential earnings.

A because it has less risk.

B because of its higher potential earnings.

14.

1 point

The efficiency wage is the wage at which

the cost of looking for work is equal to the value of the leisure time for the unemployed individual. the cost of looking for work is equal to the value of the leisure time for the unemployed individual. the cost of looking for work is equal to the value of the leisure time for the unemployed individual. the cost of looking for work is equal to the value of the leisure time for the unemployed individual.

employees have an incentive to do the optimal (positive) amount of shirking.

employees have no incentive to shirk.

there is only frictional unemployment.

there is no unemployment.

15.

1 point

Which of the following is NOT a generally accepted measure of the riskiness of an invest- ment?

Standard deviation

Expected value

Variance

none of the above.

16.

1 point

The concept of a risk premium applies to a person that is

risk averse.

risk neutral.

risk loving.

all of the above

17.

1 point

Suppose new electronic devices make it easier to monitor the effort levels of workers. If some shirking is still possible in the efficiency wage model, what happens to the efficiency wage?

Declines, but remains above the market-clearing wage

Does not change

Declines, and falls below the market-clearing wage

Increases

18.

1 point

Assume that one of two possible outcomes will follow a decision. One outcome yields a $75 payoff and has a probability of 0.3; the other outcome has a $125 payoff and has a probability of 0.7. In this case the expected value is

$35

$85

$110

$60

19.

1 point

Why do workers tend to choose low effort levels when they are compensated with fixed wage payments?

The net compensation after deducting the cost of effort is always higher when the worker provides low effort.

Workers ignore the cost of effort

Workers care more about the stability of income than the level of income.

Workers tend to be risk averse and tend to choose low-intensity alternatives.

20.

1 point

A person with a diminishing marginal utility of income

will be risk averse.

will be risk loving.

will be risk neutral.

cannot decide without more information

21.

1 point

We may not be able to fully remove risk by diversification if:

a completely risk-free asset does not exist.

the asset returns in our portfolio are positively correlated.

buying stock on margin is not allowed by financial regulators.

none of the above

22.

1 point

When provinces make car insurance mandatory for all drivers, it

may lower rates for all drivers to the extent that it keeps low-risk drivers in the pool.

prevents high-risk drivers from “selecting out” to the detriment of low-risk drivers.

raises rates for everyone because it brings bad drivers into the pool.

raises rates for high-risk drivers.

23.

1 point

Credit histories allow firms to

increase the number of credit cards issued, and interest rates go down as a result.

lower the number of credit cards issued, and interest rates go up as a result.

increase market power in the credit card industry, raising interest rates.

identify high-risk borrowers, so they can be eliminated and interest rates kept down for others.

24.

1 point

Julia is a 28-year-old nonsmoking, non-drinking female of normal weight. Because of adverse selection in health insurance,

When she get health insurance, she will be less likely to take care of herself.

She is less likely to buy health insurance than the average person, because policy premiums are based on expected medical expenditures of people who are less healthy than she is.

She is more likely than the average person to buy health insurance, because she is more likely to be offered it.

She will be charged less for her premiums than people who are higher risks.

25.

1 point

Moral hazard may arise in lending when small firms borrow funds from banks for one project (e.g., buy new machinery for a factory) and actually use the funds in other ways (e.g., buy the manager a new corporate jet). What is the source of the asymmetric information problem in this case?

The firm has more information about the actual use of the funds than the bank.

The bank has more information about the true cost of the corporate jet than the firm.

The bank has more information about the opportunity cost of the loaned funds.

The firm has more information about the interest rate on the loan than the bank.

26.

1 point

Tortilla is the only producer of tortillas in Santa Teresa. The firm produces 10,000 tortillas each day and has the capacity to increase production to 100,000 tortillas each day. La Tortilla has made a large profit for years, but no other firm has chosen to compete in the Santa Teresa tortilla market. La Tortilla has been able to deter entry because if other firms were to enter the market it would greatly step-up production and reduce price.

La Tortilla’s behavior is inconsistent with economic theory.

La Tortilla has been successful because of its credible threat.

La Tortilla behaves like a Stackelberg firm.

La Tortilla must have other barriers to entry to protect its monopoly power.

27.

1 point

Amos Long’s marginal utility of income function is given as: MU(I) = 1.5I, where I represents income. From this you would say that he is

risk averse

risk loving

risk neutral

none of the above

28.

1 point

An investment opportunity is a sure thing; it will pay off $100 regardless of which of the three possible outcomes comes to pass. The variance of this investment opportunity:

is 1

cannot be determined without knowing the probabilities of each of the outcomes.

is 0

is -1

is 2

29.

1 point

Other things equal, expected income can be used as a direct measure of well-being

always.

no matter what a person’s preference to risk.

if and only if individuals are risk averse.

if and only if individuals are risk neutral.

if and only if individuals are not risk-loving.

30.

1 point

The problem of adverse selection in insurance results is a situation in which

people choose too little coverage because they do not understand the complex infor- mation in the policies.

unhealthy people become more likely to buy insurance than healthy people, which drives premiums up, which drives even more healthy people away from the market.

people choose inappropriate or inadequate coverage because they do not understand the complex information in the policies.

healthy people become more likely to buy insurance than unhealthy people, which drives premiums up, which drives even more unhealthy people away from the market even though they are the ones who need it most.

people choose too much coverage because they do not understand the complex infor- mation in the policies.

31.

1 point

Smith just bought a house for $250,000. Earthquake insurance, which would pay $250,000 in the event of a major earthquake, is available for $25,000. Smith estimates that the probability of a major earthquake in the coming year is 10 percent, and that in the event of such a quake, the property would be worth nothing. The utility that Smith gets from income is U(I) = I^0.5. Should Smith buy the insurance?

No.

Smith is indifferent

Yes.

We need more information

32.

1 point

In Eugene, Oregon, next year there is a 2% chance of an earthquake severe enough to destroy all buildings and personal property. Ana, who has $3,000,000 in buildings and personal property, has the opportunity to purchase complete earthquake insurance. Which is true?

Ana should not purchase earthquake insurance unless he can get it for less than $60,000, because that’s all he could possibly lose in an earthquake.

Ana should be willing and able to pay up to $3,000,000 for earthquake insurance.

What Ana is willing to pay for the earthquake insurance depends upon his degree of risk aversion.

If Ana buys earthquake insurance, and an earthquake does not occur, he will have received no utility from the transaction.

Ana should not purchase earthquake insurance unless he can get it for less than $60,000, because that’s his expected loss in an earthquake.

33.

1 point

Which of the following is NOT an example of moral hazard in business?

A firm uses venture capital to speculate in the commodity futures market.

A firm does not hire adequate security protection for its warehouse after it pays for insurance on the property.

A bank buys risky mortgage securities because they believe the government will provide a bail-out if the investment performs badly.

Firms with the large debt problems are more likely to apply for bank loans than financially stable firms.

34.

1 point

The efficiency wage is

higher than the market-clearing wage, to reward workers for informing on others who shirk.

lower than the market-clearing wage, to penalize shirking.

higher than the market-clearing wage, to penalize shirking.

lower than the market-clearing wage, because of shirking done by managers.

lower than the market-clearing wage, to allow managers the resources to monitor shirking.

35.

1 point

In insurance markets, moral hazard creates economic inefficiency because:

insurance companies are price setters rather than price takers.

there are many buyers but only a few sellers.

insured individuals do not correctly perceive the costs or benefits of their actions.

insurance products are not homogenous goods.

36.

1 point

What do we mean when we state that a particular principal-agent payment scheme is inefficient?

The agreement involves the highest level of effort for the worker.

The principal and agent could find another agreement that would increase the sum of the owner’s revenue and the worker’s payment.

The agreement leads to the lowest level of revenue for the owner.

The sum of the income taxes paid by the owner and the worker is too high.

37.

1 point

The law of large numbers:

states that the average outcome of a large number of similar events can often be predicted.

can be used to explain why some people are risk averse and others are risk neutral or risk loving.

states that large amounts of information are often preferred to small amounts of information.

can be used to explain why some people choose to self-insure against random, single and largely unpredictable events.

38.

1 point

The efficiency wage is

a wage at which there is no unemployment, and shirking workers are not counted in the pool of total labor.

the wage that is paid to high-quality, non-shirking workers. Other workers are paid the market-clearing wage.

a wage at which there is a shortage of labor. Firms who fire a worker for shirking will be able to hire another one easily.

the wage that subtracts the cost of shirking from the market-clearing wage to deter- mine that which is really paid.

a wage at which there is a positive amount of unemployment. Individuals who are fired for shirking will be penalized with a period of unemployment.

39.

1 point

What does it mean to say that a game is in “extensive form”?

Strategies are described, rather than just numbered.

All payoffs are shown.

The game is presented as a matrix.

The game is presented as a decision tree.

The game is written out as often as the situation calls for it to be played.