Tutorial I5, week 5

Elena Peneva
Daria Testodoeva

Exercise 1 Theatre can be an unique experience for everyone. Directors approach plays in various
creative ways and as a spectator you observe, absorb, become amazed or, alternatively,
disappointed by what the crew behind the performance that you are watching have accomplished.
Thus, in my opinion theatre can be classified as an ‘experience good’, because according to Klein
experience goods are dominated by attributes that cannot be known prior to direct experience.
Indeed, in order to know about the acting, stage design, music, lighting, and the overall atmosphere
in the theatre during a performance, you have to see it with your own eyes. With the development of
new information technologies and media, however, we are able to read reviews online (e.g The
Guardian, Times, etc.) about the director’s approach, the level of acting, and everything that was
present on stage. Thus, if reviews are too bad, we would be less likely to buy a ticket for a
performance that is considered disappointing. This way the experience good can be turned into a
search good, because it is way cheaper and less time-consuming to read people’s opinions online,
than purchasing a ticket, paying for transportation, and spending a few hours of your time watching
a badly made play. Moreover, advertising and briefs are used to limit the uncertainty and risk of
being dissatisfied with a play. For example, in the theatre’s website and other online platforms that
promote the art forms you can read a summary of a play, and get information about the cast, venue,
what some celebrities/critics say about it. This way the customer becomes more familiar with the
good, therefore reducing uncertainty to an extent.

Exercise 2
Free information
Market Institutions and regulations try their best to deal with asymmetric information: the Internet
made it easier for any participant to be more informed. So for example Reviews helps participants
to stay aware - avoid shady businesses and raise the cost and advantage of exploiting information.
Also, the rating is one of the examples. Third-party organizations can also advise something.

Exercise 3 As described by behavioural economics, Information cascades occur when people make
decisions based solely on other people’s decisions, while ignoring their own knowledge and vision.
It is believed that if people acknowledge that, they will be able to avoid it, thus making better
financial decisions. An example of information cascade can easily be found in online shopping
where rankings play an important role for purchasing a product. For example, when deciding on a
product, customers would indeed be affected by low rankings given by previous customers, thus it
won’t be very likely that they buy it.

Exercise 4
a) 1. The situation is an example of adverse selection. This is because the offer contains negative
information about the product(car in this case) being offered. A customer would not know
whether the car is high or low quality (plum or lemon), only sellers do. Thus, buyers would be
willing to pay the average.
2. If the car is a plum (high quality) , but you are not willing to pay to the seller for its value,
then market failure occurs, as high quality is sold for way more than low quality.
3. With such warranty, sellers will have incentives to sell more high quality cars, and buyers
will be ensured of a (relatively, at least) good quality, reducing fear of purchasing inferior goods.

b) 1. The situation is an example of moral hazard. This is because the workers in this case are
exploiting the trust given by the company in a dishonest way (if they are slacking off).
2. Thus, if the workers are not doing the work they are paid to do and slack-off, this may lead to
inefficient production of goods, therefore potential market failure might occur.
3. The solution offered reduces inefficiency because piece rates increase the incentive of working
harder, thus leading to greater production.

c) 1.Hiring a new employee is, indeed a risk for the company - since they are not aware of the
person and his/her potential. Also, they don’t bear the full costs of the rick- which therefore hints
that this problem is a Moral Hazard.
2.First of all, it can bring a waste of time and resources that are spent on a potential employee. This
decision can be long-lasting and difficult to reverse after a mistake of an employee.
3. Indeed, providing more information for the company by a prospective employee with reference is
one of the ways to go. Since it almost works like a review that provides information, paints the
picture of a worker.

Exercise 5
a)According to Cowen and Tabbarok, perverse incentives related to incentives that have unplanned
and unwanted result, which are contrary to the intentions of those who set them. For example,
CEO’s cheated and manipulated reports in order to make firms appear more profitable than they
actually were.
b)Sometimes in cultural sector volunteering can be considered as perverse incentives, since young
people are called for help and to give them experience, however, it works more as the exploitation
of their labour.
c)"Selling out" is a common expression for the compromising of a person's integrity, morality,
authenticity, or principles in exchange for popularity within the crowd or following the mainstream.
It can be indeed quite a popular situation in actual economics. Because people tend to follow
fashion. When a person opens a business, he/ she tends to overlook at whats popular, therefore to
make sure that business will be prosperous.

Exercise 6
a) When the museum is quiet and the director of the museum lets people in for free, the museum is
non-excludable in consumption. Non-excludability is characterised by the idea that people
cannot be restrained from gaining access to a good even if they do not pay for it. Thus, by
making the museum entry free, everyone can enjoy it. Also, in this scenario the museum is non-
rival because the few visitors during quiet times do not restrain anyone’s consumption of the
art. Therefore, non-rivalry and non-excludability make the museum at quiet times a public
good.
b) During busy times an admission fee is being introduced, thus making the museum excludable.
This is because visitors have to pay for entering it, thus leaving those who do not pay for
admission - excluded. Moreover, the museum at peak times is rival, as only a certain amount of
people can go into the museum, thus some people’s consumption reduces others’ ability to gain
access to the museum. Therefore, at this scenario, the museum is a private good (rival and
excludable).