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Frontiers of Microeconomics
PRINCIPLES OF
MICROECONOMICS
FOURTH EDITION
N. G R E G O R Y M A N K I W
PowerPoint Slides by Ron Cronovich
2007 Thomson South-Western, all rights reserved
In this chapter, look for the answers to these questions: How does asymmetric information affect market
outcomes? How can market participants reduce the resulting problems?
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Introduction
Microeconomics continues to evolve. This chapter introduces three active areas of
research:
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Asymmetric Information
Information asymmetry: a difference in two or
more parties access to relevant knowledge
Two types:
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Corporate Management
The separation of ownership and control of
corporations creates a principal-agent problem:
principals: agents:
the shareholders, pay managers to maximize the firms profits the managers, may pursue their own objectives
So buyers are more likely to avoid used cars. Owners of good used cars less likely to get a fair
price, so may not bother trying to sell.
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Dealership provides warranties on used cars. Firms spend huge sums on advertising to signal
product quality to buyers. Highly competent workers get college degree to signal their quality to employers.
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1: Asymmetric information
ACTIVE LEARNING
For each situation below, identify whether the problem is moral hazard or adverse selection explain how the problem has been reduced
A. Aperion Audio sells home theater sound systems over the Internet and offers to refund the purchase price and shipping both ways if the buyer is not satisfied.
ACTIVE LEARNING
Answers
1A:
Aperion Audio sells home theater sound systems over the Internet and offers to refund the purchase price and shipping both ways if the buyer is not satisfied.
Adverse selection:
Buyers may fear that systems purchased on the Internet will not sound good, since the sellers know that buyers cannot hear them first. So, firms with good systems are less likely to be successful selling them on the Internet.
ACTIVE LEARNING
Answers
1B:
Moral hazard:
The landlord (principal) does not know how well the tenant (agent) treats the apartment. Tenants may not be careful if they can get away without paying for damage they cause.
Political Economy
Political economy applies the methods of
economics to study how govt works.
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35% A B C
45% B C A
20% C A B
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35% A B C
45% B C A
20% C A B
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% of voters
30% 25% 20% 15% 10% 5% 0% $20 $30 $40 $50 $60 $70 $80
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ACTIVE LEARNING
Answers
2:
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Behavioral Economics
Behavioral economics: a new field in which
economists apply basic insights from psychology
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People are overconfident. People give too much weight to a small number of
vivid observations.
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Example:
A firm may pay above-equilibrium wages during profitable years to be fair, or to avoid appearing unfair and risking retaliation from workers.
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CONCLUSION
Recall two of the Ten Principles: Markets are usually a good way to organize economic activity. Governments can sometimes improve market outcomes. Research at the frontiers of microeconomics illustrates some caveats that go with these principles: Consumers arent always rational. Market outcomes may not be best when information is asymmetric. Government solutions are not always ideal.
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