Exam 12: The Economics of Information

A manager is attempting to assess the probability of a recession ending in the next six months and its impact on expected profitability. The manager believes there is a 33 percent chance the recession will end in six months and profits will return to $100 million. However, there is a 67 percent chance the recession will not end in six months, resulting in a $7 million loss. The standard deviation of profits over the next six months is:

The winner's curse occurs:

Suppose a risk-neutral competitive firm must set output before it knows for sure the market price. Suppose the market price is given by p = p* + e, where p* is the mean price and e is a random term with an expected value of zero. Then in order to maximize expected profits, the firm should produce where:

You are a hotel manager and you are considering four projects that yield different payoffs, depending upon whether there is an economic boom or a recession. The potential payoffs and corresponding payoffs are summarized in the following table. The expected value of project C is:

You are a hotel manager and you are considering four projects that yield different payoffs, depending upon whether there is an economic boom or a recession. The potential payoffs and Corresponding payoffs are summarized in the following table. Which project has the greatest variance?

An incumbent usually charges a higher price than a new entrant does. Which of the following is a plausible reason for this observation?

You are a hotel manager and you are considering four projects that yield different payoffs, depending upon whether there is an economic boom or a recession. The potential payoffs and corresponding payoffs are summarized in the following table. The expected value of project D is:

To maximize profit in the face of uncertainty, firms should produce the output where:

Consider a market for product X where 75 percent of the stores charge $500 and 25 percent charge $450. Compute the expected benefit from an additional search when the first search results in a price of $500.

"Guaranteed issue" is a controversial topic in the insurance market. It requires firms offering health coverage for one employee to offer the same coverage to all employees, regardless of their health risks. Why is this so controversial?

If insurance companies are required to offer coverage to all interested people, it is said that premiums for each person will be increased. Assume that the insurance market is perfectly competitive. What is the major reason for raising the premium?

Consider a consumer who is searching for the lowest price for good X. The consumer knows that 75 percent of the time she will find a store charging $10 and 25 percent of the times she will find a store charging $7. The consumer will search again if her marginal cost of searching is constant and is:

Suppose that sellers value a good car at $10,500 and a bad car at $5,500, and quality is not observed by the buyers. What is the highest price that risk-neutral buyers will offer for a used car if they ignore adverse selection when 60 of the cars are good?

Which of the following statements is NOT correct?

Determine the most likely information structure (independent private values, affiliated values, or common values) for an auction involving: a. A music CD. b. An offshore oil lease. c. A used car.

You are a hotel manager and you are considering four projects that yield different payoffs, depending upon whether there is an economic boom or a recession. The potential payoffs and corresponding payoffs are summarized in the following table. Which project has the lowest variance?

Which of the following is a feature of a Dutch auction?

You are a hotel manager considering four projects that yield different payoffs, depending upon whether there is an economic boom or a recession. The potential payoffs and corresponding payoffs are summarized in the following table. The expected value of project A is:

A risk-averse manager is considering a project that will cost $100. There is a 10 percent chance the project will generate revenues of $100, an 80 percent chance it will yield revenues of $50, and a 10 percent chance it will yield revenues of $500. Should the manager adopt the project? Explain.

When Olympia and York was in the process of restructuring its loans to avoid bankruptcy, its lenders asked the firm to disclose full information about its revenues and costs. Olympia and York, on the other hand, was reluctant to share all of its information with the lenders. Why?