Question

Each of the following solutions were developed to lessen an asymmetric information problem. Sort each solution into the problem it aimed to address.
a. a health screening to determine acceptance into a health insurance plan.
b. a telematic device in a prospective car insurance customer's vehicle that tracks driving behavior.
c. a video monitoring system in your home while your babysitter is there.
d. a company requirement that the chief executive officer hold at least five times their annual salary in company stock.
1. Adverse selection
2. Principal-agent

Answer 1

The following are solutions to adverse selection:

a. a health screening to determine acceptance into a health insurance plan.

b. a telematic device in a prospective car insurance customer's vehicle that tracks driving behavior.

The following are solutions to principal-agent problem:

c. a video monitoring system in your home while your babysitter is there.

d. a company requirement that the chief executive officer hold at least five times their annual salary in company stock.

Asymmetric information is when one of the parties in a transaction has more information than the other parties in the transaction.  

Adverse selection is an effect of  asymmetric information. This is when the party with more information takes steps to their advantage to the detriment of other parties. The principal-agent problem occurs when the interests of a public company's managers and shareholders are  not aligned.  

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