We can work on The “Tragedy of the Commons.”

Meyer describes the “Tragedy of the Commons.” The IMF article explains how this type of problem is an example of an “externality.” What is an externality? What might be a good government policy to solve the problem of the environmental externality that leads to high greenhouse gas emissions?
Moral Hazard and Adverse Selection

“Moral hazard” is a term often used in the context of peoples’ behavior once they have insurance. Szuchman and Anderson explore the idea of moral hazard in personal relationships. How would you define moral hazard? Provide an example of a moral hazard that you have observed in your own community or workplace.

How does moral hazard differ from adverse selection? Provide an example to illustrate this concept.

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Sample Answer


An externality is a cost or benefit that is not borne by the person or persons who create it. For example, if a factory pollutes the air, the people who live near the factory may suffer health problems, but the factory owners do not have to pay for those health problems.

Externalities can be either positive or negative. A positive externality is a benefit that is not borne by the person or persons who create it. For example, if a person plants a tree, the tree provides shade for people who walk by, but the person who planted the tree does not have to pay for the shade.

Negative externalities are more common than positive externalities. Some examples of negative externalities include pollution, traffic congestion, and noise pollution.

Government policies to solve environmental externalities

Full Answer Section

There are a number of government policies that can be used to solve environmental externalities. These policies include:

  • Regulations: Governments can regulate the amount of pollution that businesses are allowed to emit.
  • Taxes: Governments can tax businesses for the pollution that they emit.
  • Cap-and-trade programs: Cap-and-trade programs set a limit on the amount of pollution that is allowed, and then businesses can trade permits to emit pollution.

Moral hazard

Moral hazard is a situation where people take more risks because they are protected from the consequences of those risks. For example, if a person has insurance, they may be more likely to take risks that they would not take if they did not have insurance.

Adverse selection

Adverse selection is a situation where people who are more likely to experience a loss are more likely to buy insurance. For example, if an insurance company offers a policy that covers heart disease, people who are more likely to have heart disease are more likely to buy the policy.

How moral hazard differs from adverse selection

Moral hazard and adverse selection are both related to insurance, but they are different concepts. Moral hazard is about how people’s behavior changes after they have insurance. Adverse selection is about who is more likely to buy insurance.

An example of moral hazard is a person who has car insurance and then drives more recklessly because they know that they will not have to pay for any damage that they cause. An example of adverse selection is a person who is more likely to have heart disease buying a health insurance policy that covers heart disease.


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