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A principal is considering hiring a lawyer to represent him or her in a lawsuit. The principal gets $ 250 000 if the suit is won and $0 otherwise. If the agent works hard (100 hours), there is a 50% chance that the principal will win the suit. If the agent does not work hard (10 hours), there is a 15% chance that the principal will win the suit. Without a lawyer, the principal is sure to lose the suit. The principal can monitor the agent, and both parties are risk neutral. The agent's utility function is m-50e, where m is money in dollars and e is effort in hours. The agent's fee for this case is $100 per hour, and the outside opportunity is worth $500. Write down the game in extensive form and solve it.
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- Suppose there are two types of people, high ability and low ability. A high-ability person's productivity is valued at wH = $100,000, while a low-ability person's productivity is valued at wL = $50,000. Assume that the employer does not know the ability of a job applicant, but knows that the probability of an applicant being high ability is 50%. Assume next that only high ability applicants can send a signal, i.e., obtain a degree. The employer pays the expected wage. i. What is the wage oer in a pooling equilibrium (no applicant attains a degree)? ii. What is the wage oer in a separating equilibrium (only high-ability applicants attain a degree)? iii. Suppose now both types can attain a degree, but it is costlier to attain for low-ability people and costs them cL = $60,000, while it costs high-ability people cH = $40,000. Is a separating equilibrium where only high-ability people send education as a signal possible? Explain.Suppose that every driver faces a 2% probability of an automobile accident every year. An accident will, on average, cost each driver $14,000. Suppose there are two types of individuals: those with $112,000.00 in the bank and those with $3,500.00 in the bank. Assume that individuals with $3,500.00 in the bank declare bankruptcy if they get in an accident. In bankruptcy, creditors receive only what individuals have in the bank. Assume that both types of individuals are only slightly risk averse. In this scenario, the actuarially fair price of full insurance, in which all damages are paid by the insurance company, is . Assume that the price of insurance is set at the actuarially fair price. At this price, drivers with $112,000.00 in the bank likely buy insurance, and those with $3,500.00 in the bank likely buy insurance. (Hint: For each type of driver, compare the price of insurance to the expected cost without insurance.) Suppose a state law has been passed…Soft selling occurs when a buyer is skeptical of the usefulness of a product and the seller offers to set a price that depends on realized value. For example, suppose a sales representative is trying to sell a company a new accounting system that will, with certainty, reduce costs by 10%. However, the customer has heard this claim before and believes there is only a 30% chance of actually realizing that cost reduction and a 70% chance of realizing no cost reduction. Assume the customer has an initial total cost of $300. According to the customer's beliefs, the expected value of the accounting system, or the expected reduction in cost, is . Suppose the sales representative initially offers the accounting system to the customer for a price of $19.50. The information asymmetry stems from the fact that the has more information about the efficacy of the accounting system than does the . At this price, the customer purchase the accounting system, since the expected…
- Suppose that there is asymmetric information in the market for used cars. Sellers know the quality of the car that they are selling, but buyers do not. Buyers know that there is a 30% chance of getting a "lemon", a low quality used car. A high quality used car is worth $30,000, and a low quality used car is worth $15,000. Based on this probability, the most that a buyer would be willing to pay for a used car is $ 25500. (Enter your response rounded to the nearest dollar.) Which of the following would best "solve" the asymmetric information problem in this market? O A. Prohibiting the sale of low-quality cars. O B. High-quality sellers could offer warranties or product guarantees. OC. Low-quality sellers could establish industry standards. O D. It is not possible to solve the asymmetric information problem in this market.A store manager must hire a clerk to work in her store. The sales of the store are uncertain and also a function of how hard the clerk works. If the clerk works hard (high effort) then there is a 75% chance that sales will be $500 per day and a 25% chance that they will be $100 per day. If the clerk does not work hard (low effort) then there is only a 25% chance that sales will be $500 and a 75% chance that they will be $100. The store manager is risk neutral and her utility is the expected profits of the store i.e.U^Manager = Expected (Sales – Wages). The clerk is risk averse. In addition, the clerk does not like to work hard so exerting high effort lowers her utility. Her utility function is given by U^clerk(w,e)=w^0.5-e where e is either 0 (low effort) or 4 (high effort). Finally, assume that the clerk could work somewhere else where her total utility would be 10. Thus, she will only work in this store if the total utility of working here is at least 10. Below, assume that if the…Cheryl Druehl Retailers, Inc., must decide whether to build a small or a large facility at a new location in Fairfax. Demand at the location will either be low or high, with probabilities 0.6 and 0.4, respectively. If Cheryl builds a small facility and demand proves to be high, she then has the option of expanding the facility. If a small facility is built and demand proves to be high, and then the retailer expands the facility, the payoff is $230,000. If a small facility is built and demand proves to be high, but Cheryl then decides not to expand the facility, the payoff is $183,000. If a small facility is built and demand proves to be low, then there is no option to expand and the payoff is $250,000. If a large facility is built and demand proves to be low, Cheryl then has the option of stimulating demand through local advertising. If she does not exercise this option, then the payoff is $45,000. If she does exercise the advertising option, then the response to advertising will…
- Consider a worker who works for at most two periods (say, when young and when old) at a particular firm. Each period, the worker can choose between exerting high effort and exerting low effort. The worker's cost of exerting high effort are Cy when young and Co when old. The worker's cost of exerting low effort are zero. The effort of the worker is difficult to observe by the firm. With probability T, the firm observes the worker's effort at the end of a period. With the remaining probability, the firm does not observe the worker's effort. The firm can only fire the worker when it observed that the worker has shirked. In that case, the firm is also allowed to withhold the worker's wage for the period in which the worker was caught shirking. When exerting high effort, the worker's productivity is q, when young and q, when old. When exerting low effort, the worker's productivity is zero. The worker's value of alternative job opportunities is when young and v, when old. For simplicity, the…Soft selling occurs when a buyer is skeptical of the usefulness of a product and the seller offers to set a price that depends on realized value. For example, suppose a sales representative is trying to sell a company a new accounting system that will, with certainty, reduce costs by 10%. However, the customer has heard this claim before and believes there is only a 20% chance of actually realizing that cost reduction and a 80% chance of realizing no cost reduction. Assume the customer has an initial total cost of $200. According to the customer's beliefs, the expected value of the accounting system, or the expected reduction in cost, is $____ . Suppose the sales representative initially offers the accounting system to the customer for a price of $12.00. The information asymmetry stems from the fact that the ______(sales rep or buyer) has less information about the efficacy of the accounting system than does the ______(sales rep or buyer) . At this price, the…An insurance company estimates that drivers have a 5% chance of getting into an accident that will cost the driver $10,000. There are two types of drivers: the ones with $50,000 in the bank and the ones with only $5,000. In case of an accident those with $5,000 will declare bankruptcy and creditors can only recover $5,000. What is the fair pair of insurance and will those with $5,000 in the bank buy it? Why?
- Suppose that every driver faces a 2% probability of an automobile accident every year. An accident will, on average, cost each driver $7,000. Suppose there are two types of individuals: those with $42,000.00 in the bank and those with $1,750.00 in the bank. Assume that individuals with $1,750.00 in the bank declare bankruptcy if they get in an accident. In bankruptcy, creditors receive only what individuals have in the bank. Assume that both types of individuals are only slightly risk averse. In this scenario, the actuarially fair price of full insurance, in which all damages are paid by the insurance company, is $ Assume that the price of insurance is set at the actuarially fair price. At this price, drivers with $42,000.00 in the bank likely v buy insurance, and those with $1,750.00 in the bank likely buy insurance. (Hint: For each type of driver, compare the price of insurance to the expected cost without insurance.) Suppose a state law has been passed forcing all individuals to…A reserve price is a minimum price set by the auctioneer. If no bidder is willing to pay the reserve price, the item is unsold at a profit of $0 for the auctioneer. If only one bidder values the item at or above the reserve price, that bidder pays the reserve price. An auctioneer faces two bidders, each with a value of either $228 or $304, with both values equally probable. Without a reserve price, the second highest bid will be the price paid by the winning bidder. The following table lists the four possible combinations for bidder values. Each combination is equally likely to occur. On the following table, indicate the price paid by the winning bidder with and without the stated reserve price. Bidder 1 Value Bidder 2 Value Probability Price Without Reserve Price with $304 Reserve Price ($) ($) ($) $228 $228 0.25 $228 $304 0.25 $304 $228 0.25 $304 $304 0.25 Without a reserve price, the expected…