Author Question: Explain the concept of adverse selection. Give an example. What will be an ideal ... (Read 112 times)

naturalchemist · **on:** Jun 29, 2018

Explain the concept of adverse selection. Give an example.

What will be an ideal response?

Question 2

Why are selling costs high in monopolistic competition?

What will be an ideal response?

juliaf · **Reply #1 on:** Jun 29, 2018

Answer to Question 1

Adverse selection is a tendency for people to enter into agreements in which they can use their private information to their own advantage and to the disadvantage of the less informed party. For example, if a car dealership offers its salespeople a fixed wage, it will attract lazy salespeople. Hardworking salespeople will prefer not to work for this dealership because they can earn more by working a dealership that pays by results.

Answer to Question 2

In monopolistic competition, there are a large number of small firms producing differentiated products. Each firm's output is a substitute for other firms' output; therefore demand for any firm's product is very elastic. If firms can further differentiate their product in the eyes of the consumer, they might be able to both increase demand and decrease demand elasticity, at least temporarily. In this case, the firm could then charge a higher price and, temporarily at least, make an economic profit. This differentiation occurs through innovation, product development and marketing, which contribute to selling costs.