Question

2. Answer all parts (a), (b), and (c) of this question. (a) [10 marks] Define and explain the concepts of moral hazard and adverse selection. Illustrate each concept with two examples: one in the context of new technology sale, the other in the context of new technology funding. (b) [20 marks] Explain why asymmetric information may cause a market failure in the markets for selling new technology and the market for funding new technological development. (c) [20 marks] Propose and defend a solution to these market failures in each of the two markets (technology sale and new technological development funding). Point out any disadvantages as well as any advantages of your solution.

Answer 1

a) moral hazard can be defined as the assurance or the false impression that may create or deteriorate the functionality of a product. for example, in health insurance, if we do n't have insurance we will be careful about our health but after taking insurance we are more carefree and the risk factor usually high in this case. so the information plays a significant role in moral hazard. so if we can present the moral hazard in terms of new technology sale then we can take an example of the high technology-enabled washing machine which claim to remove any kind of spot. here before that technology we are generally careful about getting spots but when we acquire that we are more careless about using the h. here we are not only deteriorating the usefulness of that machine but also we are spoiling the cloth quality. when we are discussing the technology funding its uncertain. for examples if someone wants to go for a startup the seed funding is available easily so getting strat up and enjoying for few years in the name of entrepreneurship creates a moral hazard to new entrepreneurs to understand the reality or the goal. So they will enjoy 2 years or so and then they will go back to the regular job for a smooth lifestyle. so this activity creates a moral hazard for both the investor and the new entrepreneur.

coming to the adverse selection is a part of moral hazard which creates the illusion and that leads to a further misleading and the customer will take a wrong decision regarding its selection. if we will take the example of adverse selection on technology sales, as a customer we always try to be overprotected so without our necessity we try to acquire a product that is not required for the customer. for example, washing machine if a washing machine with a neral feature is enough but unnecessary we are ready to invest more by seeing the lucrative features of new technology enables washing machine. in terms of technology fi=unding the same effect on adverse selection when we go for any investment. the funds are available but we are not assured that whether we will select that product or not. but eventually, e end up with the wrong funding due to the asymmetric information.

b) Due to the attractive advertisement and influencer, the customer became biased in a selection but later on, t has an impact on selling of new technology as the customer always goes for a product which is more attractive but the technology associated to the product could not be able to attract the customer. so in this, both customers and the market fail to establish a positive relation. In case of funding also the investor could not decide the investment option and finally they fall into a position their investment went wrong.

c) by proposing the solution the for the technology sale the proposed company needs to present the objective clearly and more informatic rather creating illusion. so selling a technology also need to concentrate one group which are more appropriate for that particular product it will not only establish the company in market and increase the brand or product loyalty. here the advantage is the low moral hazard and disadvantage is high competition.

in case of technology finding the investor as well as the entrepreneur both have to thoroughly study the structure and the system, then only the investment will be risk-free and the entrepreneur and the investor will get the proper return. so the advantage of this process is your perception and product will be more effective which is a good sign of the establish of a start-up. the negative part is that it is very difficult to find out which one is real without any furnishing or whcih one is false.