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Asymmetric Information and the Credit Market. Sean is a rice farmer. To grow rice, he must buy seeds, which cost $100. Rice production is risky. If he gets a GOOD harvest, Sean earns revenues of $500. If, instead, he has a BAD harvest his revenues are $0. After Sean plants the seeds, he must decide to either WORK HARD or BE LAZY. If he chooses to WORK HARD, he will have a GOOD harvest with 80% probability. If he chooses to BE LAZY, he only has a 20% probability of having a GOOD harvest.
Assume that Sean has $100 in wealth, so he can buy the seeds and plant rice without a loan.
Assume Sean’s utility function is:
If he chooses to WORK HARD: U(C) = C – 240;
If he chooses to BE LAZY: U(C) = C.
In other words, if Sean chooses to BE LAZY, his utility is exactly equal to his consumption. If he chooses to WORK HARD, his utility is equal to his consumption minus the “cost” of hard work, which is 240.
Will Sean choose to WORK HARD or BE LAZY?
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