Question B4. (15 marks) You wish to hire Tim to manage your Gold Coast ramen store. The profits from the store depend partially on how hard Tim works, as follows: Profit Probabilities Profit = $10,000 Profit = $20,000 Lazy 60% 40% Hard worker 40% 60% If Tim is lazy, he will close the store and surf the beach all day, and he views this as a zero cost opportunity. However, Tim views working hard as a “personal cost" valued at $800. Assume that Tim cares only about his expected payment less any “personal cost.” (a) (4 marks) What is your expected profit when Tim is lazy? What is your expected profit when Tim works hard? (b) (5 marks) One method to incentivize Tim to work hard is to offer him a percentage of your profit. What is the minimum percentage of profit should you offer Tim if you want him to work hard? (c) (6 marks) If you ask Tim to have an interview with you before hiring him, which problem of asymmetric information are you trying to solve? If you are satisfied and decide to hire Tim, is that the end of the information asymmetry?
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Transcribed Image Text: B4. (15 marks) You wish to hire Tim to manage your Gold Coast ramen store. The profits from the store depend partially on how hard Tim works, as follows: Profit Probabilities Profit = $10,000 Profit = $20,000 Lazy 60% 40% Hard worker 40% 60% If Tim is lazy, he will close the store and surf the beach all day, and he views this as a zero cost opportunity. However, Tim views working hard as a “personal cost" valued at $800. Assume that Tim cares only about his expected payment less any “personal cost.” (a) (4 marks) What is your expected profit when Tim is lazy? What is your expected profit when Tim works hard? (b) (5 marks) One method to incentivize Tim to work hard is to offer him a percentage of your profit. What is the minimum percentage of profit should you offer Tim if you want him to work hard? (c) (6 marks) If you ask Tim to have an interview with you before hiring him, which problem of asymmetric information are you trying to solve? If you are satisfied and decide to hire Tim, is that the end of the information asymmetry?
More Transcribed Image Text: B4. (15 marks) You wish to hire Tim to manage your Gold Coast ramen store. The profits from the store depend partially on how hard Tim works, as follows: Profit Probabilities Profit = $10,000 Profit = $20,000 Lazy 60% 40% Hard worker 40% 60% If Tim is lazy, he will close the store and surf the beach all day, and he views this as a zero cost opportunity. However, Tim views working hard as a “personal cost" valued at $800. Assume that Tim cares only about his expected payment less any “personal cost.” (a) (4 marks) What is your expected profit when Tim is lazy? What is your expected profit when Tim works hard? (b) (5 marks) One method to incentivize Tim to work hard is to offer him a percentage of your profit. What is the minimum percentage of profit should you offer Tim if you want him to work hard? (c) (6 marks) If you ask Tim to have an interview with you before hiring him, which problem of asymmetric information are you trying to solve? If you are satisfied and decide to hire Tim, is that the end of the information asymmetry?
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Solution:-a) When Tim is lazy expected profit should be:-\text { Lazy } \times \text { profit + lazy } \times \text { profit }\begin{array}{l}=60 \% \times 10000+40 \% \times 20000 \\=6000+8000 \\=14000 .\end{array}when Tim is working hard expected profit should be:Hard worker x profit thard workerx prafit\begin{array}{l}=40 \% \times 10000+60 \% \times 20000 \\=4000+12000 \\=16000 .\end{array}b) The % age profit will be 5 \% as tim is wortinghard and is able to cover cost and personal cost of 800 .c) We will have to face problem of Moral hazard as now we are facingproblem of adverse selection. ...