Each of the Following Is an Example of Moral Hazard

question 21

Multiple Choice

Each of the following is an example of moral hazard in which people modify their behavior in an opportunistic way,often frustrating the intent of governmental or management policies.Which is NOT an example of moral hazard?

• A) After a firm gets a loan from a bank to purchase inventory,the borrower instead decides to use it to invest in call options on stocks.
• B) Based on motorcycle accident data,a state passes a law requiring motorcyclists to wear helmet,but then the motorcyclist wearing helmets start to drive faster and more recklessly.
• C) Bank and nonbank mortgage lenders make money granting loans.But the Government through Freddie Mac and Fannie Mae decides to purchase these loans.The mortgage lenders find that they earn a fee for each mortgage that they grant and then sell to Freddie Mac or Fannie Mae.Since they never intended on holding on to the mortgage,the mortgage granters are not too particular on whether the customer can really pay it back.The lowest quality loans are sold to the Government.
• D) A fellow buys a $1 million life insurance policy and then travels to Nepal to climb Mount Everest.
• E) A student learns that if he or she reads the chapter and studies lecture notes,the student does better on the next test.

---

Definitions:

Demand Shifts

Changes in consumer desire or preference that cause the demand curve to move either to the right (increase) or left (decrease).

Real Exchange Rate

A measure that compares the relative price of a basket of goods in two different currencies, adjusted for inflation.

Surplus

The amount by which the quantity of a product or service available exceeds the quantity demanded at the current price.

Shortage

A situation in which quantity demanded is greater than quantity supplied.