4 Uncertainty, Information, and the Invisible Hand 1) As more information is gather, the marginal cost of additional information ________ and the marginal benefit of additional information ________. A) increases; increases B) increases; decreases C) decreases; increases D) decreases; decreases 2) Information can be thought of as a A) non-economic piece of data. B) violation of the invisible hand idea that the pursuit of self-interest promotes social interest. C) good whose marginal benefit is infinite. D) good whose marginal benefit decreases as more information is acquired. 3) Which of the following statements is correct? A) Because information is different from typical goods and services, it cannot be provided in a market. B) The marginal benefit from more information does not decrease. C) Too little information is provided if the market for information is a monopoly. D) Acquiring more information can never be inefficient. 5 News Based Questions 1) The International Maritime Bureau said the waters off Somalia are the world’s most dangerous, accounting for nearly a third reported pirate attacks worldwide between January and September 2008. Suppose all boats are insured to $100,000 and pay a premium of $10,000 each. Suppose 10 out of 100 boats are attacked by pirates and these 10 file claims with their insurance. If the insurance company’s only costs are the claims it must pay, has the insurance company earned an economic profit? A) Yes, they earned an economic profit of $90,000 B) No, they broke even C) No, they sustained an economic loss of $90,000 D) Yes, they earned an economic profit of $1,000,000 2) The International Maritime Bureau said the waters off Somalia are the world’s most dangerous, accounting for nearly a third reported pirate attacks worldwide between January and September 2008. Suppose all boats are insured to $100,000 and pay a premium of $10,000 each. Suppose 10 out of 100 boats are attacked by pirates and these 10 file claims with their insurance. What is the value of the claims? A) One trillion dollars B) One billion dollars C) One million dollars D) One hundred thousand dollars 3) The International Maritime Bureau said the waters off Somalia are the world’s most dangerous, accounting for nearly a third reported pirate attacks worldwide between January and September 2008. Suppose all boats are insured to $100,000 and pay a premium of $15,000 each. Suppose 10 out of 100 boats are attacked by pirates and these 10 file claims with their insurance. Has the insurance company earned an economic profit? A) Yes, they earned an economic profit of $500,000 B) Yes, they earned an economic profit of $50,000 C) No, they sustained an economic loss of $85,000 D) No, they broke even 4) Mortgage insurance protects lenders when a borrower defaults by making up any shortfall needed to repay the loan if the sale of the property doesn’t cover the debt. Federally regulated lenders must have mortgage insurance on loans where the buyer’s down payment is less than 20 per cent of the price. In this example, what signal do potential homeowners give to indicate they are low-risk? A) Indicating high income B) Buying an expensive home C) Having a large down payment D) Buying an inexpensive home 5) Mortgage insurance protects lenders when a borrower defaults by making up any shortfall needed to repay the loan if the sale of the property doesn’t cover the debt. Federally regulated lenders must have mortgage insurance on loans where the buyer’s down payment is less than 20 per cent of the price. This can partially prevent ________. A) symmetric information problems B) adverse selection problems C) public information problems D) the lemon problem 6) Mortgage insurance protects lenders when a borrower defaults by making up any shortfall needed to repay the loan if the sale of the property doesn’t cover the debt. Federally regulated lenders must have mortgage insurance on loans where the buyer’s down payment is less than 20 percent of the price. Why is this 20 percent threshold efficient for the insurance company? A) Information about an individual’s mortgage repayment risk is valuable to the insurance company, and the insurance company has found that all individuals fall into this 20 percent threshold B) Information about an individual’s mortgage repayment risk is valuable to the insurance company, but there diminishing marginal cost in obtaining very specific information C) Information about an individual’s mortgage repayment risk is valuable to the insurance company, and the insurance company has found that this 20 percent threshold is perfectly efficient D) Information about an individual’s mortgage repayment risk is valuable to the insurance company, but there diminishing marginal benefit in obtaining very specific information 7) Suppose Nara could invest her $1000 in a savings account or she could invest in the stock market. After one year, the savings account has a guaranteed 5 percent interest rate and the stock market has a 10 percent chance of tripling her money, and 90 percent chance of losing it all. What is Nara’s expected wealth if she places her money in the savings account? A) $1,050 B) $50 C) $300 D) $1,300 8) Suppose Nara could invest her $1000 in a savings account or she could invest in the stock market. After one year, the savings account has a guaranteed 5 percent interest rate and the stock market has a 10 percent chance of tripling her money, and 90 percent chance of losing it all. What is the difference in Nara’s expected wealth between these two options? A) $1050 B) $300 C) $750 D) $50 9) Suppose Nara could invest her $1000 in a savings account or she could invest in the stock market. After one year, the savings account has a guaranteed 5 percent interest rate and the stock market has a 10 percent chance of tripling her money, and 90 percent chance of losing it all. What is Nara’s expected wealth if she places her money in the stock market? A) $300 B) $1,300 C) $50 D) $1,050 10) Suppose Nara could invest her $1000 in a savings account or she could invest in the stock market. After one year, the savings account has a guaranteed 5 percent interest rate and the stock market has a 10 percent chance of tripling her money, and 90 percent chance of losing it all. To give Nara the maximum expected wealth, what should she do? A) She should invest all of her money in the stock market B) She should invest all of her money in the savings account C) She should invest half of her money in the savings account and half in the stock market D) She should only invest her money in the stock market if she is risk averse