104

Question 1

how people’s taste for risk
affects their choice among options (investments, career
choices, consumption bundles) with uncertain outcomes.

Answer 1

Expected Utility Theory

Question 2

The amount that a risk-averse person would pay to avoid taking a risk. For example, an individual may buy insurance to avoid risk.

Answer 2

Risk Premium

Question 3

In a perfectly competitive market there are…

Answer 3

no transaction costs

Question 4

Name some of the reasons for market failure

Answer 4

• Asymmetric Information
• Externalities
• Economies of Scale

Question 5

can be broadly defined as the costs that arise

from the implementation and usage of institutions.

Answer 5

Transaction Costs

Question 6

Deviation from economic rationality. Definition by Herbert A. Simon (1957):
“ agents experience limits in formulating and solving complex problems and in processing (receiving, storing, retrieving, transmitting) information

Answer 6

Bounded Rationality

Question 7

Contracts cannot specify the behavior for every possible situation, thus they are…

Answer 7

Incomplete Contracts, which result in follow-up problems.

hold-up problem is central to the theory of incomplete contracts and shows the difficulty in writing complete contracts.

Question 8

Reasons for incomplete contracts:

Answer 8

• Ex-post surprises
• Very high negotiation costs
• Very high enforcement costs
• Loopholes

Question 9

Value of transaction-specific investment minus value of the second-best transaction-specific investment

Answer 9

Quasi-rent

Question 10

Vertical intregration vs Horizotal.

Answer 10

Vertical integration would be buying the seller of parts, horizontal would be buying another similar company to what you do(comcast buying time warner)

Question 11

Situation in which one party to a transaction has relevant

information that another party does not have

Answer 11

asymmetric information

Question 12

Two types of asymmetric information:

Answer 12

Hidden action(endogenous) - Agent can take unobserved actions.
2. Hidden information (exogenous) - Agent has information on important characteristics or states of nature, which the principal does not have.

Question 13

Problem arising when agents (e.g., seller of a product or firm’s managers) pursue their own goals rather than the goals of principals (e.g., the buyer of the product or the firm’s owners).

Answer 13

principal–agent problem

Question 14

Opportunism characterized by an informed person’s taking advantage of a less-informed person through an unobserved action.

Answer 14

moral hazard

Question 15

Form of market failure resulting when different qualities are sold at a single price
because of asymmetric information.

Answer 15

adverse selection

Question 16

incentive compatibility constraint

Answer 16

A’s expected net income resulting from eH must be at least as high as the expected net income resulting from eL.

Question 17

A return received in an activity that is in excess of the minimum needed to attract the resources to that activity.

Answer 17

Rent

Question 18

Process by which sellers send signals to buyers conveying

information about product quality.

Answer 18

market signaling

-Example: Job Market

Question 19

Action by either a producer or a consumer which affects other producers or consumers, but is not accounted for in the market price.

Answer 19

externality

Question 20

Principle that when parties can bargain without (transaction) costs and to their mutual
advantage, the resulting outcome will be efficient regardless of how property rights are
specified. Ex-post we can always reach Pareto-efficient allocations.

Answer 20

Coase theorem

Question 21

Game theory example in which two parties must make a decision; if they both work together and choose the best desision that they profit the most, but if one doesn’t, he suffers so they both choose the worst option.

Answer 21

prisoners’ dilemma

Question 22

dominant strategy

Answer 22

Strategy that is optimal no matter what an opponent does.

Question 23

Set of strategies or actions in which each player does

the best it can given its competitors’ actions.

Answer 23

Nash equilibrium

Question 24

Vertical Problems vs Horizontal Problems:

Answer 24

Vertical is between corporative actors at different hierarchy levels, Horizontal is at the same hierarchy level

Question 25

Explanation for the presence of unemployment and wage discrimination which recognizes that labor productivity may be affected by the wage rate.

Answer 25

efficiency wage theory

Question 26

Principle that workers still have an incentive to shirk if a firm pays them a market-clearing wage, because fired workers can be hired somewhere else for the same wage.

Answer 26

shirking theory

Question 27

Wage that a firm will pay to an employee as an incentive not to shirk. It is above the market-clearing wage.

Answer 27

efficiency wage

Question 28

Explains why wage differences are not based on marginal productivity, but instead upon relative differences between the individuals. Higher wages function as tournament prices. Exact output/productivity does not need to be measured, only the relative ranking between individuals is necessary

Answer 28

Rank-order tournaments

Question 29

Activities of employees to influence supervisors’ assessment of performance and abilities to their own advantage.

Answer 29

nfluence activities

Question 30

The tendency for central controllers to base next year’s targets on last year’s performance. Thus, managers who expect still to be in place in the next target period have a perverse incentive not to exceed targets even if they could easily do

Answer 30

ratchet effect

Question 31

Horizontal Problems in Organizations:

Answer 31

Horizontal Problems, Natural dependencies(division of labor), Artificial dependencies(generated by incentives ex:sabotage, rat race)

Question 32

The setting of the price for goods and services sold

between legal entities within an enterprise.

Answer 32

transfer pricing

Question 33

a state of allocation of resources in which it is impossible to make any one individual better off without making at least one individual worse off.

Answer 33

Pareto efficiency

Question 34

the amount of wealth, that if held with certainty, would

yield the same utility as an uncertain prospect.

Answer 34

Certainty Equivalent

Question 35

Name the risk averse levels of Arrow-Pratt Measure:

Answer 35

p>0 Risk Averse, P

Question 36

An organization with a functional structure

Answer 36

groups employees according to similar

sets of roles and tasks.

Question 37

. An organization with a divisional structure

Answer 37

groups employees around products,

locations, or markets.

Question 38

What helps to minimize influence activities?

Answer 38

Reduced Wage Differentials

Question 39

To reduce risks, a firm should invest in

Answer 39

projects where the outcomes are negatively

correlated.

Question 40

What are solutions to overcome problems arising from the internal allocation of goods?

Answer 40

Auctions
Groves/Loeb Mechanism
Profit Sharing

Question 41

If two firms cannot agree on things like location, what type of game theory problem is this?

Answer 41

Coordination Problem,

Question 42

A firm with two departments (A and B) produces a quantity q of a final product and sells it for the price p on the market. Department A produces a semi-finished product, while department B finishes the product and sells it on the market. What determines the efficient production level?

Answer 42

p = MCA + MCB

Question 43

There are the two lotteries L1 and L2. Lottery L1 yields $10 with certainity, while lottery L2 yields $6 with probability 1/3 and $15 with probability 2/3. What are the expected values of the two lotteries?

Answer 43

E[L1] = 10, E[L2] = 12