Moral hazard occurs before a transaction takes place, whereas adverse selection occurs after the transaction is completed.
- True
- False
Answer: False
The reverse is true. Adverse selection happens before the transaction (e.g., high-risk individuals are more likely to buy insurance). Moral hazard occurs after the transaction, when one party changes their behavior and takes more risks because they are protected from the consequences (e.g., driving recklessly after buying full-coverage insurance).