Flashcards in Final Deck (31)

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1

## In general terms, what is adverse selection?

### Situation where only constant-price contracts are offered and the informed party decides to participate upon observation. Job market/unraveling.

2

## In general terms, what is cheap talk?

### Costless messages or actions are sent from the informed party to the uninformed.

3

## In general terms, what is screening/NLP?

### The uninformed side offers a menu to the informed party. Used in airline prices.

4

## In general terms, what is mechanism design?

### Similar to screening, but more complicated forms of moving the informed party to a particular outcome. Often utilize auctions or public good valuations.

5

## In cheap talk, what does a lower value for "b" mean?

### Preferences between sender/receiver are more closely aligned

6

## What is each party trying to accomplish in cheap talk?

###
Minimize their loss function:

1. Sender = L(l y - b - θ l)

2. Receiver = L(l y - θ l)

7

## What are the results of the cheap talk model?

###
1. No PBE where sender gives message m = θ

2. The difference in length between two adjacent intervals is 4b.

3. There is always a babbling equilibrium where one interval/partition exists

4. The number of partitions is decreasing in b.

8

## What is the most efficient equilibrium in a cheap talk model?

###
Where the number of intervals is maximized

nx+2bn(n-1) = 1

9

## How can the relationship between "b" and "n" be explained?

### b < 1/2n(n-1)

10

## How do you construct partitions/intervals in the cheap talk model?

###
1. Set nx+2bn(n-1) = 1

2. Solve for "n", plug in to solve for "x"

3. Use to solve for intervals

11

## How do you calculate the expected utility for the receiver/sender in cheap talk?

###
1. Find the area under the curve by taking the integral of the partitions

2. If loss function is absolute value, have to split babbling into parts to keep values positive

**For instance, ∫(1/2 - x)dx + ∫(x - 1/2)dx

3. Sum of welfare should be negative since there is loss

12

## How do you find the Pareto dominant equilibrium in cheap talk?

###
1. Maximize the number of partitions given "x"

2. Plug back in and solve for "x"

3. Use to determine interval lengths

13

## How do you find the values of "b" where the only equilibrium is a babbling one?

###
1. Plug n = 2 into nx+2bn(n-1) > 1

2. Solve for "b"

3. Plug in "x" almost equal to 0

14

## If one or neither party can send a signal and there is a uniform offer presented to all market participants, which model are you dealing with?

### Adverse selection

15

## What is the Pareto efficient allocation in adverse selection?

### The full information case

16

## How do you find the equilibrium in adverse selection when information is asymmetric?

###
1. Find w* = E[θl r(θ) ≤ w*]

2. Max. the profit function (by solving for θ in terms of w. Plug back into expectation

**Be sure to subtract all costs, whether wage or fixed if not already accounted for in the profit function).

17

## How do you calculate the expected output given a w in adverse selection?

###
1. Find the range of θ that satisfies r(θ) ≤ w

a) If uniform, E[θ] = midpoint --> a+b/2

b) If not, E[θl a ≤ θ ≤ b] = ∫ θ * f(θ)/F(b) - F(a)

18

## What are the main assumptions of adverse selection?

###
1. Multiple principals competing for agents

2. The agent has a privately known type

3. r(θ) is the type-dependent outside option (reservation)

19

## What is the first-best solution in adverse selection?

### 1. SPE where w*(θ) = θ

20

## What is the second-best solution in adverse selection?

###
1. PBE where r'(θ) > 0 and r(θ) < θ for both types

2. w* = E[θl r(θ) ≤ w*]

3. Equilibrium wage is increasing in θ

21

## Why can't the government produce better outcomes in the adverse selection model?

### It is assumed that they do not have better information than the principals/agents

22

## What are the assumptions of screening/NLP?

###
1. Principal is uninformed, but sets terms of the exchange

2. There are multiple types of agents

3. Agents have different utilities w/ single-crossing property (high types willing to pay more for an additional unit).

23

## What is the sequence of events in NLP?

###
1. Agent privately observes θ

2. Principal offers a menu {q, T}

3. Agent accepts/rejects and outcomes are realized

24

## What happens in the full info. NLP model?

### Principal sets a binding IR (perfect price discrimination) by finding max. utility for the agent

25

## What are the steps in the asymmetric NLP model?

###
1. Set up an IR/IC for each type

2. Eliminate IR by proving that IR for one type > IR for the other (**focus on types, not qty.)

3. Eliminate IC to form another condition. If this condition binds, the other IC is implied

4. Check which binding IC max. principal's profit

26

## What are the assumptions of moral hazard?

###
1. There is uncertainty/risk that one party is attempting to transfer to the other

2. Contracting is made over outcomes since effort is not observable or unverifiable

27

## What is the first-best solution for moral hazard?

### To offer a fixed contract i.e. "sell the firm" to the agent

28

## What is the second-best solution for moral hazard?

### To utilize the sharing rule. This rule changes depending on whether the agent is risk-neutral or risk-averse (know both formulas)

29

## What are the features of the BDM model?

###
1. Agent has a valuation θ, but can lie about the value

2. It is a weakly dominant strategy for the agent to be truthful

3. Random price (auction)

30

## What are the features of the GCM model?

###
1. Concerned w/ pivotal agents and externalities (public goods)

2. Price is determined by pivotal agents

31