Practice exam no.

1- for fun and learning - ECOS2201

1. An individual agent expects their payoff will be 200 with a probability of .4 and that their payoff
will be 60 the rest of the time. What is their expected payoff?

a. 65

b. 100

c. 80

d. 76

e. None of the above

2. Consider an agent with a expected utility function of U(x) = 5x, where x is the income received.
This individual is:

a. Risk neutral

b. Risk averse

c. Risk lover (risk seeker)

d. All of the above

e. None of the above.

3. Which statement is true?

a. The efficient allocation of risk is for the relatively risk-averse individual to bear more of the risk

b. The efficient allocation of risk requires that a risk averse person face no uncertainty and for the
risk neutral party to face all of the risk.

c. Given there are gains from trade to be realised, the relative risk-neutral individual should face less
of the uncertainty.

d. The requirements of the efficient allocation of risk suggests that it is never beneficial to make a
risk-averse individual, despite a potential principal agent problem (the agent takes a hidden action)

e. None of the above

4. Consider a principal-agent problem in which the principal wants the agent to take the lowest
effort possible and the agent is risk averse.

a. It is possible to get this level of effort, but it will require giving the agent some incentive contract
based on output.

b. The principal need only satisfy the incentive compatibility constraint, and need not worry about
the participation constraint.

c. This lowest effort level can be implemented without making the agent bearing any risk - there is
no conflict between efficient risk sharing and getting the desired level of effort.

d. All of the above

e. None of the above

5. Which statement is true?

a. A firm can increase the risk faced by a risk averse agent by improving the measurement of effort

b. It is not in the interests of the agent to have the principal to use a measurement device (signal)
that more closely measures their effort.

c. A principal can reduce the exogenous risk faced by an individual by improving their measurement
of agent’s effort, but the benefit is always smaller than the additional cost.

d. Improving the measurement of agent’s effort, while interesting, is not beneficial because
outcomes (profit, sales, etc) are what the principal cares about.

e. Improving the measurement signal of agent’s effort reduces the exogenous risk placed on
agents through the incentive contract, allowing the expected remuneration costs to be reduced.

f. All of the above

g. None of the above.

h. b and e

i. b and d.

j. g and f

k. a, b and c.
6. An efficiency wage:

a. Focuses on continuous monitoring and paying the worker an above market wage.

b. pays the worker a flat wage at the market rate, but involves the threat that the worker is fired if
found not putting in sufficient effort.

c. suggests that a worker will be paid a fixed salary plus a bonus based on output.

d. relies on occasional monitoring and an effective punishment if the agent is found to be

breaching the requirements in their contract

e. is not efficient.

7. Three key components of the multi-tasking problem are

a. risk sharing

b. potential substitution of effort across tasks

c. measurement error for the different tasks

d. all of the above

e. none of the above

8. In the multi-tasking problem

a. If one task has very powerful incentives for the agent, the incentives to undertake the other
task also need to be strong

b. If one task has very powerful incentives for the agent, the other task should be given weak
incentives

c. Overall effort is what is important with multi-tasking, not necessarily the split between tasks.

d. Incentives between tasks are substitutes for the principal.

e. None of the above

The following set up applies for the next two questions.

9. There are two firms in market that simultaneously set their production quantities of a
homogenous good. Market demand is given by P = a – bQ, where P is market price and Q is market
quantity. Let the output of firm 1 be denoted by q1 and the output of firm 2 be denoted by q2. Each
firm has constant marginal costs of c. In the Nash equilibrium of the game, what is the output level of firm
1?

 a−c
(a) q1* = 3.  
 b 

a−c
(b) q1 =
*

3b

3(a − c)
(c) q1 =
*

2b

c−a
(d) q1* =
2b

10. In the Nash equilibrium, what is firm 1’s profit?

(a − c) 2
(a) π 1 =
9b

(c − a ) 2
(b) π 1 =
3b

(a − c) 2
(c) π1 =
b

(3a − 3c)
(d) π1 =
b

11. Both Carol and Jackie produce a homogenous product. They both have zero marginal costs and
simultaneously choose output. The market demand curve for the product is P = 1 - Q, where Q total
output. In equilibrium what is the output of Carol and Jackie?
a.qj = qc = 1/3

b. qj = qc = 1/2

c. qj = qc = 1/4

d. qj = ½, qc = 1/4

e. None of the above

12. Both Carol and Jackie produce a homogenous product. They both have zero marginal costs.
Jackie chooses her output first; having observed qj, Carol then chooses her output level. The market
demand curve for the product is P = 1 - Q, where Q total output. In equilibrium what is the output of
Carol and Jackie?

a.qj = qc = 1/3

b. qj = qc = 1/2

c. qj = qc = 1/4

d. qj = ½, qc = 1/4

e. None of the above

13. Both Carol and Jackie produce a homogenous product. They both have zero marginal costs.
Jackie chooses her output first; having observed qj, Carol then chooses her output level. The market
demand curve for the product is P = 1 - Q, where Q total output. Which statement is true?

a. The choices of each firm are strategic complements.

b. It is not possible to say whether the choices of the two are strategic complements or substitutes
given the above information

c. All of the above.

d. The choices of each firm are strategic substitutes

e. None of the above.

14. A way of softening price competition between rivals is to

a. lower marginal cost

b. increase product differentiation

c. lower the transport costs of consumers

d. increase a firm’s capacity

e. none of the above

15. Both Carol and Jackie produce a homogenous product. They both have zero marginal costs and
simultaneously choose price. Consumers buy from the cheapest seller; if both prices are the same
consumers evenly split between the vendors. In equilibrium what is the price of Carol and Jackie?

a. pc = pj = 0

b. pc > pj = 1

c. pc = pj >0

d. All of the above

e. None of the above.

Short answer

1. Use the Hotelling model to show how product differentiation can help firms increase the prices
they charge to consumers.

2. Review the model of deterrence and accommodation from lectures. If an investment makes an
incumbent tough, the two firm’s choices are strategic substitutes and the incumbent wants to
accommodate entry, what is the appropriate strategy?

3. What are the advantages of opening a network to rivals? What are the disadvantages?

4. Review the hold-up problem. How will this affect a firm