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(econ150)[2010](f)midterm~thu^_10227.pdf
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Econ150.
Fall.2010.
Francis.Lui.
Midterm.Exam.
.
1)
The.competitive.market.mechanism.is.said.to.possess.some.desirable.properties:.


a)
It.is.information.efficient;.


b)
It.is.self\correcting;.


c)
It.makes.all.parties.involved.better.off..



Briefly.explain.why.the.market.mechanism.might.have.these.properties..(15.points)..

2)
.(A).A.common.phenomenon.in.the.automobile.market.is.that.once.a.new.car.is.driven.on.the.street.for.a.day.or.so,.it.will.instantly.lose.as.much.as.a.quarter.of.its.market.value..In.what.sense.can.the.concept.of.adverse.selection.explain.this.phenomenon?.(12.points).

.
(B).In.the.early.1980s,.the.automobile.manufacturer.Chrysler.was.losing.a.lot.of.money..It.then.introduced.a.strategy.that.had.successfully.rescued.the.company.from.further.losses..What.was.the.strategy?.In.what.sense.can.the.concept.of.costly.signaling.explain.the.success?.(13.points).
.

3)
Define.moral.hazard..

In.what.sense.can.moral.hazard.explain.the.emergence.of.toxic.assets.that.cause.the.subprime.crisis?.
It.is.often.pointed.out.that.investment.banks,.such.as.Lehman.Brothers,.had.taken.excessive.risks.in.their.investment.activities..The.latter,.in.turn,.had.been.a.primary.cause.of.the.financial.tsunami..In.what.sense.can.moral.hazard.explain.the.high\risk.levels.taken.by.the.banks?.(25.points).
..

4)
After.the.collapse.of.Lehman.Brothers.in.September.2008,.the.central.banks.in.many.developed.economies.decided.to.pursue.the.policy.of.monetary.easing,.i.e.,.they.increased.the.money.supply.and.injected.the.money.into.banks..In.what.ways.could.this.policy.help.to.restore.market.stability

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