which of the following situations are examples of adverse selection and which ar
ID: 1246889 • Letter: W
Question
which of the following situations are examples of adverse selection and which are examples of agency problems? Explain your reasoning for each case. 1. A restaurant offers a free birthday cake to patrons who dine there on their birthday. The restaurant typically has 200 customers each night. The manager calculates that the probability of a customer having a birthday that night is 1/365. He orders 3 cakes each night, believing that will be enough. He runs out of cakes 5 nights in a row. 2. Overworked small business owner, Jerry White, decides to hire a manager to run some of the day-to-day operations of his business. When White is away, however, the manager goes home early, lets employees leave to run personal errands, etc. 3. Defendant Ida hires a lawyer recommended by her friends, Willie, to defend her in a shoplifting case. At the day of the trial, Willie shows up unprepared: he is unfimiliar with the case or the applicable laws, penalties, etc. Ida has a bad feeling going into the trial.Explanation / Answer
Adverse Selection Problem
It refers to a market process in which undesired results occur when buyers and sellers have assymetric information (access to different information); the "bad" products or services are more likely to be selected.
Agency Problem
Concerns the difficulties in motivating one party, to act on behalf of another.
1. A restaurant offers a free birthday cake to patrons who dine there on their birthday. The restaurant typically has 200 customers each night. The manager calculates that the probability of a customer having a birthday that night is 1/365. He orders 3 cakes each night, believing that will be enough. He runs out of cakes 5 nights in a row. : this is Adverse selection problem
2. Overworked small business owner, Jerry White, decides to hire a manager to run some of the day-to-day operations of his business. When White is away, however, the manager goes home early, lets employees leave to run personal errands, etc. : this is an examples of agency problems
3. Defendant Ida hires a lawyer recommended by her friends, Willie, to defend her in a shoplifting case. At the day of the trial, Willie shows up unprepared: he is unfimiliar with the case or the applicable laws, penalties, etc. Ida has a bad feeling going into the trial. :this is Adverse selection problem
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