Question

In: Economics

Question(1 point) Identify whether each situation is an example of adverse selection, the principal-agent problem, or...

Question(1 point) Identify whether each situation is an example of adverse selection, the principal-agent problem, or neither.

1st attempt Items (6 items) (Drag and drop into the appropriate area below)

Life insurance companies aren't always fully aware of patients' health history.

Your auto insurace company raises everyone's rates because of a rash of accidents.

Your rate rises too, even though you haven't had an accident. Your orthodontist says your children need braces. You don't get a second opinion. After all, why would the doctor lie?

Consumers trust doctors to order only those procedures that are necessary.

Even though you are a smoker, you have heard that if you quit for a month, insurance companies won't be able to detect nicotine in your system. You quit for a month, and you get a good rate on your insurance.

You go on a drinking binge after getting a new health insurance policy.

The categories:

Adverse selection

Principal-agent

Neither

Expert Solution

Adverse selection refers to the problem of asymmetric information where one party has more information than the other. Adverse selection takes place before the transaction.

Principal agent occurs when one party trusts the other party with the information and legally appoints it on their behalf.

1) Life insurance companies are not fully aware of the information about individuals is a problem of adverse selection because one party has more information than other.

2) This is also the problem of adverse selection. Since the company is not aware of the type of driver you are they tend to increase the premium for all.

3) This is the problem of principle agent. This is because you are entrusting the health of you family with the doctor who is a professional.

4) This is same as entrusting trust in someone because you are not aware of the procedure or not a professional. So it is principal agent problem.

5) This is the adverse selection. You have more information about smoking and about not being caught which works in your advantage and the disadvantage of insurance company.

6) After the insurance policy , if the individual is being careless about the health , then it is called moral hazard ie which occurs after the transaction is made. So neither of the two.

(You can comment for doubts)

Rahul Sunny answered 2 years ago

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