Question

Mick is an artist. He loves nature and spends endless hours in nature painting landscapes. He drives an old clunker to get around. He knows nothing about cars. One a recent trip his car sputtered and stopped running. He took the car to a mechanic. The mechanic gave him an estimate of $1,800. Mick should mostly be concerned with this estimate because of?

1) Moral hazard
2) Adverse selection
3) The problem of hidden action
4) The Pigouvian tax

Answer 1

Mick should be mostly concerned with adverse selection, as the mechanic may have more information about the car's problems and could take advantage of it.

Step-by-step explanation:

In this scenario, Mick, as an artist with little knowledge of cars, should be mostly concerned with adverse selection. Adverse selection occurs when one party has more information than the other and uses that information to their advantage. In this case, the mechanic likely knows more about the car's problems than Mick does and has an incentive to hide information in order to charge a higher price for repairs.

For example, the mechanic may claim that the estimated repair cost is $1,800, while the actual cost could be much lower. Without sufficient knowledge about the state of his car, Mick may end up overpaying for repairs.

To avoid adverse selection, Mick could seek a second opinion from another mechanic or do some research to gain a basic understanding of car repairs and estimated costs.