Public Goods, Asymmetric Information, and Asset Markets

Question 1

Explain a Public Good

Answer 1

Public goods are non-rival and non-excludable. Rivalry is when one person’s consumption of a good is another’s loss, or the total quantity is perpetually reduced. Exclusion is when it is not prohibitively costly to provide a good only to the people who pay for it (food)

Question 2

Define tragedy of the commons

Answer 2

The tragedy of the commons is an economic theory that describes a situation where individuals, acting in their own self-interest, deplete a shared resource

Question 3

Explain the difference between incomplete symmetric information and incomplete asymmetric information

Answer 3

ISI – all market participants do not know some information (insurance contracts in california that don’t cover the risk of earthquakes IASI– some participants don’t know some information that other’s know , AKA circumstantial knowledge.

Question 4

Identify the two problems of asymmetric information

Answer 4

Hidden characteristics / adverse selection
- predetermined information is known to one side of the market but not the other (ig quality of the car )
Hidden action / moral hazard
- Action is observed by one side of the market but not the other
-Principle Agent Problem : there is a conflict of interest between a principal (the owner) and an agent (the representative) due to misaligned incentives.

Question 5

Assets are…

Answer 5

goods that provide a flow of services over time ; housing, flow of money, memberships

Question 6

Explain the eq’m condition for asset markets

Answer 6

1+r = p1/p0

1+the interest rate = the ratio of future value and present value .

Question 7

define arbitrage

Answer 7

buying one asset and selling some of another to realize a sure return

Question 8

Law of One Price

Answer 8

a tradable good must sell for the same price in all locations in the absence of transaction costs