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Econ 201 Chapter 15: Market Imperfections

Terms in this set (40)

A realtor chooses to sell a client's house to get a quick commission, even though the house could have sold for more if they waited longer. This is an example of

adverse selection.

moral hazard.

the principal-agent problem.

caveat emptor.
the principal-agent problem.
According to many observers, the main shortcoming of the market in terms of general welfare

is its inability to increase the standard of living.

lies in the arena of justice and injustice.

lies in its inability to increase the supply of consumer goods.

is its drag on growth in labor productivity.
lies in the arena of justice and injustice.
The free-rider problem occurs

when a good is not excludable in nature.

when there is asymmetric information in a market.

when principals rely on agents.

when a good is in limited supply.
when a good is not excludable in nature.
If a profit-maximizing firm operating in a free competitive market generates air pollution, its socially optimum output level would correspond to the point where the

marginal social cost curve intersects the marginal private cost curve.

marginal private cost curve intersects the marginal revenue curve.

marginal revenue curve touches the horizontal axis.

marginal social cost curve intersects the marginal revenue curve.
marginal social cost curve intersects the marginal revenue curve.
Which externality is most likely to be internalized through private negotiation without government intervention?

An industrial plant whose cooling equipment increases the water temperature of a nearby stream, altering the ecosystem

A power plant emitting greenhouse gases that contribute to global climate change

A home with beautiful architecture that pleases all who drive by and who do not help pay for the home's upkeep

A rancher's cows trampling his farmer neighbor's cabbage field, as they go to a stream to drink water
A rancher's cows trampling his farmer neighbor's cabbage field, as they go to a stream to drink water
Which of the following is an example of adverse selection?

A patient who is more likely to buy insurance because he gets sick often

A driver who drives more recklessly because he is insured

A driver not caring about the risk imposed on other by his reckless driving

A patient who ignores the risks that others might get sick is not getting a vaccine
A patient who is more likely to buy insurance because he gets sick often
Identify the correct statement about an ideal competitive market.

The market deals efficiently with externalities.

Resources are allocated by the government.

Resources are allocated according to consumers' ability to pay.

The market provides public goods at affordable prices.
Resources are allocated according to consumers' ability to pay.
A market transaction causes an externality if

the producers seek governmental intervention and regulation to set the price of a product equal to its marginal cost.

the activity causes incidental benefits or damages to those who are directly involved in the activity.

the activity imposes a cost or a benefit on a third party who is not involved in the production process.

it harms the buyer.
the activity imposes a cost or a benefit on a third party who is not involved in the production process.
The marginal social cost of an activity is

always equal to the marginal private cost of the activity.

the sum of its marginal private costs and external costs.

the marginal cost incurred by those in society who are not a party to a transaction.

the difference between marginal private cost and marginal external cost.
the sum of its marginal private costs and external costs.
Which is not a way to reduce the effects of asymmetric information?

Money-back guarantees

Prepurchase inspections

Product warranties

Tying contracts
Tying contracts
Which of the following is an example of moral hazard?

A person with a valuable collection of antiques that is insured tends to take less precaution against burglary.

A firm spends money on lobbying so that it gets a major government contract for building bridges.

A firm seeks to influence the government to impose regulations on its competitors to increase its market share.

In the market for lemons, a person with a good quality car is forced to accept a low price for his car.
A person with a valuable collection of antiques that is insured tends to take less precaution against burglary.
Refer to the following graph that shows the demand and cost curves of an apparel manufacturing unit. In the absence of government intervention, _____ units of output will be produced.

W
X
Y
Z
X
If an economy operates with optimum efficiency, then

the production of all goods can be increased simultaneously, given the level of technology and natural resources available in the economy.

it will produce less of a good if its price is higher than the marginal cost of production.

the marginal cost of output is greater than the marginal utility of output.

an increase in the production of a good will be accompanied by a decline in the production of another good.
an increase in the production of a good will be accompanied by a decline in the production of another good.
The Fourth of July fireworks is an example of a

public good.

Giffen good.

luxury good.

merit good.
public good.
According to economists, rent seeking behavior refers to

unproductive activity in the pursuit of economic profit.

increasing profits by increasing the prices of goods that are scarce.

any activity that causes incidental damages to the society.

the free-rider problem often encountered by the government.
unproductive activity in the pursuit of economic profit.
When a firm produces a good with beneficial externalities in a competitive market without intervention, it will produce where

marginal social cost equals marginal social benefit.

marginal social cost is below marginal social benefit.

marginal private cost equals marginal social benefit.

marginal social cost is above marginal private benefit.
marginal social cost is below marginal social benefit.
A nondepletable, nonexcludable good can be best described as

an inferior good.

a public good.

a private good.

a normal good.
a public good.
Heather's brother owes her $100 that he plans to repay next year. If the rate of interest is 8 percent this year, what is Heather's opportunity cost of lending the money to her brother?

$12.5
$108
$8
$92
$8
A person who has unemployment insurance can extend the amount of time he is voluntarily unemployed. This kind of behavior is described as

moral hazard.

free riding.

rent seeking.

adverse selection.
moral hazard.
If interest rates fall in an economy,

current investment in factories and equipment falls.

the opportunity cost of capital investment in the current period falls.

use of resources for current production increases.

the natural rate of unemployment becomes zero.
the opportunity cost of capital investment in the current period falls.
The cost disease of personal services results from

bargaining by labor unions.

asymmetric information.

uneven productivity growth.

the negative externalities in the provision of these services.
uneven productivity growth.
Which of the following is true for a public good?

It is not depletable in nature.

The opportunity cost of serving an additional user is greater than zero.

Nonpaying users can be excluded from enjoying a public good.

It includes only material commodities.
It is not depletable in nature.
If a driver with collision insurance drives well above the speed limit, it is likely to be

a problem of moral hazard.

a principal-agent problem.

an adverse selection.

a rent seeking activity.
a problem of moral hazard.
Barely used cars generally sell for much less than new cars because

sellers have less information about used cars than about brand new cars.

in this age of Internet, buyers have more information about the cars being sold than sellers.

neither buyers nor sellers know whether the car is a lemon.

sellers have more information about used cars than buyers do.
sellers have more information about used cars than buyers do.
The City Council of Sylvania hosts an air show every year that is open to the general public. Many people who attend the air show make donations, but donation is not mandatory to attend the air show. In this case,

the nonpayers generate negative externalities.

the air show is a depletable good.

the nonpayers are free riders.

the air show is an excludable good.
the nonpayers are free riders.
Which of the following choice would a competitive market have the most difficulty valuing the trade-off?

Whether resources should be used to produce more shoes or jackets

Whether to move more financial capital to government bonds or corporate bonds

Whether to remove a mountaintop to mine coal or save the mountain and coal for later

Whether wheat or sorghum should be planted
Whether to remove a mountaintop to mine coal or save the mountain and coal for later
_____ leads to underpricing and overuse of an economic resource.

The lack of an enforceable property rights

Moral hazard

Taxation

The free-rider problem
he lack of an enforceable property rights
If marginal social cost exceeds the marginal private costs for a firm, then the firm

generates detrimental externalities.

enjoys economies of scale.

enjoys economies of scope.

generates beneficial externalities.
generates detrimental externalities.
_____ is not a public good.

Street lighting

A coastal lighthouse

Public transport system

A flood control system
Public transport system
A rising real interest rate tends to

encourage increasing inventories.

encourage long-term capital investment.

discourage long-term capital investment.

discourage making current sales.
discourage long-term capital investment.
Which of the following is true for a purely public good that requires an up-front fixed cost?

Average total cost is always decreasing with increased use.

Marginal social cost is always decreasing with increased use.

Marginal social cost is always increasing with increased use.

Average total cost is always increasing with increased use.
Average total cost is always decreasing with increased use.
In a perfectly competitive market, if the production of a good generates beneficial externalities, then

marginal social benefit is greater than marginal private cost of a firm, and output is produced less than the socially optimum level.

marginal social cost exceeds marginal private cost of a firm, and output is produced more than the socially optimum level.

marginal social cost is less than marginal private cost of a firm, and output is produced less than the socially optimum level.

marginal social benefit is less than marginal private cost of a firm, and output is produced more than the socially optimum level.
marginal social benefit is greater than marginal private cost of a firm, and output is produced less than the socially optimum level.
A characteristic of a public good is that it is one

whose benefits cannot readily be restricted to a small group of people.

whose supply is depleted when it is used by an additional user.

that is provided for the general benefit of the public at a low price.

that can be enjoyed free of cost by the entire society.
whose benefits cannot readily be restricted to a small group of people.
Long-term investments tend to increase if

the prices fluctuate widely over the years.

the opportunity cost of future consumption is high.

the interest rates are relatively low.

the people have a "defective telescopic faculty."
the interest rates are relatively low.
In a perfectly competitive market, when a firm's activities generate detrimental externalities,

free markets will produce too little of the output.

its marginal social cost will be equal to zero.

its marginal social cost will be greater than its marginal private cost.

its marginal benefits will be more than the marginal cost.
its marginal social cost will be greater than its marginal private cost.
One of the imperfections of a market economy is that

the government controls the distribution of natural resources.

the pure public goods are offered at very high prices.

there is unequal distribution of income among households.

most of the goods are sold at prices above marginal costs.
there is unequal distribution of income among households.
According to A. C Pigou, a "defective telescopic faculty" refers to the fact that

people do not take into account business fluctuations while taking investment decisions.

people do not change their expectations about the future based on current experience.

people do not consider the effects of their action on the society.

people do not give adequate weight to the future.
people do not give adequate weight to the future.
The cost disease of personal services refers to

the general decline in the quality of public and private services.

the tendency of the costs and prices of these services to rise faster than the average output in the economy.

the tendency of the cost of investment to rise rapidly over the years.

the general decline in the consumption levels and standard of living in an economy.
the tendency of the costs and prices of these services to rise faster than the average output in the economy.
The production possibilities frontier shows

all the combinations of two inputs that can be used to produce a given amount of the output.

the maximum possible utility that can be derived from the consumption of a good.

the maximum possible output that can be produced with the available technology and natural resources.

the optimum level of output at which price equals marginal cost of production.
the maximum possible output that can be produced with the available technology and natural resources.
The cost disease for personal medical services will increase if

productivity in medical services falls slower than productivity in the general economy falls.

productivity in medical services grows faster than productivity in the general economy grows.

productivity in medical services and productivity in the general economy fall at the same rate.

productivity in medical services grows slower than productivity in the general economy grows.
productivity in medical services grows slower than productivity in the general economy grows.
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