Exam Question..

cheater

Hey guys, I'm trying to study for an economics exam at the moment. Our lecturer gave us sample questions of those that may come up on the paper, naturally I'm trying to answer all of these as part of my study. I'm having a bit of trouble with two of them and was wondering if anyone on here would be able to help me out or even point me in the right direction as to where to go to find the answers..

Q1. Explain whether repeated dealings can solve the problems of moral hazard in a contracting environment.

Q2. Peter A is a computer analyst at a company. His job involves writing code to integrated multi-media capability throughout the company. Mike B is a sales representative. The company offers to pay Peter A’s fees as he pursues a Masters Degree in Systems Design but denies Mike B’s request for fee support for an MBA. Discuss the possible rational for these decisions.

Any help would be greatly appreciated. Thanks!

Time Magazine

cheater wrote: »

Hey guys, I'm trying to study for an economics exam at the moment. Our lecturer gave us sample questions of those that may come up on the paper, naturally I'm trying to answer all of these as part of my study. I'm having a bit of trouble with two of them and was wondering if anyone on here would be able to help me out or even point me in the right direction as to where to go to find the answers..

We'll give you good pointers rather than full answers

Q1. Explain whether repeated dealings can solve the problems of moral hazard in a contracting environment.

Moral hazard is where, for example, people don't bother locking their car because they have insurance. If you do that, it's not going to be long until you car is stolen. Think about the difference, from the insurance company's point of view, of getting a chance to change the contract every few months rather than being locked-in for a year. If the customer's car is robbed after a week, does this reveal anything for the next negotiation?

Q2. Peter A is a computer analyst at a company. His job involves writing code to integrated multi-media capability throughout the company. Mike B is a sales representative. The company offers to pay Peter A’s fees as he pursues a Masters Degree in Systems Design but denies Mike B’s request for fee support for an MBA. Discuss the possible rational for these decisions.

Peter A is a skilled worker, Mike B is a replaceable sales rep.

cheater

Thanks for the reply.

So basically moral hazard, is how a person will behave differently than they would if they were fully exposed to a risk? Am I correct in saying that in your example because the person knows that they have insurance and will be compensated if their car or belongings inside the car are stolen they will not lock the car whereas if they were fully at risk, where they had no opportunity to be recompensated by the insurance company they will lock their car?

Also repeated dealings enables the insurance company to recalculate the risk of insuring someone?

Thanks a million, both your pointers so far have been very helpful.

Time Magazine

Yep, your understanding is correct.

For super extra bonus marks for your second question, you might think about the incentives of the workers. Suppose getting a masters would make both workers more productive, say by 20%. A computer analyst is unlikely to be paid on a commission basis because there aren't really obvious targets for him to reach, but he will be 20% more productive so it might be worth the while for the company to pay for his masters. However, for the sales rep, it's very easy to observe how good a job he is doing by setting sales targets. Because there's no informational asymmetry there, the company can hire him on a commission basis. So if he gets an MBA and increases sales by 20%, his pay will increase. Thus there may be more of an incentive for a sales rep to get a masters than for the computer analyst to get a masters, even though their productivity would increase equally. So it makes more sense for a company to pay the fees for the computer analyst.

cheater

Time Magazine wrote: »

Yep, your understanding is correct.

For super extra bonus marks for your second question, you might think about the incentives of the workers. Suppose getting a masters would make both workers more productive, say by 20%. A computer analyst is unlikely to be paid on a commission basis because there aren't really obvious targets for him to reach, but he will be 20% more productive so it might be worth the while for the company to pay for his masters. However, for the sales rep, it's very easy to observe how good a job he is doing by setting sales targets. Because there's no informational asymmetry there, the company can hire him on a commission basis. So if he gets an MBA and increases sales by 20%, his pay will increase. Thus there may be more of an incentive for a sales rep to get a masters than for the computer analyst to get a masters, even though their productivity would increase equally. So it makes more sense for a company to pay the fees for the computer analyst.

So, because it will be of benefit to the company to have a 20% more productive computer analyst, the company will be more willing to pay for the computer analyst to do his masters, and also the computer analyst is more unlikely to pay for the masters himself than the sales rep as there isn't the same incentive for him when he completes it as there is for the sales rep?

Two simple posts on boards has given me a better understanding of this than attending lectures all year! Thanks again!

tok9

Hey, just wondering about Moral Hazard myself... i have a good understanding of it and adverse selection. But...

Can one exist without the other?

In my opinion, they can exist without the other but my reasoning isn't great.. basically just saying they are both different terms. Other then both using possible asymmetry information, they don't seem to have anything else in common.

Flamed Diving

tok9 wrote: »

Hey, just wondering about Moral Hazard myself... i have a good understanding of it and adverse selection. But...

Can one exist without the other?

In my opinion, they can exist without the other but my reasoning isn't great.. basically just saying they are both different terms. Other then both using possible asymmetry information, they don't seem to have anything else in common.

You seriously need to motivate your reasoning on this. I'm a little distracted by the rugby, but I reckon you are right, you can have a market with perfect information (ruling out adverse selection), and yet still have moral hazard (behaviour changing due to nature of payoff).

tok9

Flamed Diving wrote: »

You seriously need to motivate your reasoning on this. I'm a little distracted by the rugby, but I reckon you are right, you can have a market with perfect information (ruling out adverse selection), and yet still have moral hazard (behaviour changing due to nature of payoff).

Ya i'll do a bit more researching.. thanks for the advice

tok9

Sorry again, but i need a bit more help..

The question is Explain the role of distinctive dimensions in understanding transaction cost?

I can't find anything on distinctive dimensions

Flamed Diving

Never heard of it.

tok9

thats grand thanks.. must just be some kind of phrasing because i can't find anything on it...

Thanks for the help

Flamed Diving

Ask your lecturer to define what it means. I had a look on Google myself and found no definition.