Problem 2. Consider an economy with a large number of potential online game providers. The provider lacks the funds to start their projects. There is a large number of investors who have the funds but no desire to create online games. Each investor has 10 goods to invest. Each online game requires 20 goods to create. Each investor can choose any providers to fund their online games. Assume that 25% of a chance, an online game project will fail and has a salvage value worth 10 goods. With 75% of a chance, the game will succeed and can generate revenue equal to 40 goods. The status of failure or success is private information to the provider. If other people want to know the status, they are required to pay 1 good to investigate, otherwise, they rely on the provider's self-report. (a) Explain why in order to borrow and lend, each investor needs to incur the moni- toring cost of 1 good when the provider announce that the project fails. (b) Compute the gross expected rate of return for each investor when the investor chooses 10 projects to fund. (c) Compute the gross expected rate of return for each investor when the investor chooses 1 projects to fund. (d) Explain why the expected return is greater when the investor chooses to fund 1 project. (e) Assume there is a perfectly competitive banking sector. Each bank can take deposits and make loans but faces the same private information problem. Compute the gross deposit rate that the bank will offer. Compare your result with part (c) and explain the role of banks. Problem 2. Consider an economy with a large number of potential online game providers. The provider lacks the funds to start their projects. There is a large number of investors who have the funds but no desire to create online games. Each investor has 10 goods to invest. Each online game requires 20 goods to create. Each investor can choose any providers to fund their online games. Assume that 25% of a chance, an online game project will fail and has a salvage value worth 10 goods. With 75% of a chance, the game will succeed and can generate revenue equal to 40 goods. The status of failure or success is private information to the provider. If other people want to know the status, they are required to pay 1 good to investigate, otherwise, they rely on the provider's self-report. (a) Explain why in order to borrow and lend, each investor needs to incur the moni- toring cost of 1 good when the provider announce that the project fails. (b) Compute the gross expected rate of return for each investor when the investor chooses 10 projects to fund. (c) Compute the gross expected rate of return for each investor when the investor chooses 1 projects to fund. (d) Explain why the expected return is greater when the investor chooses to fund 1 project. (e) Assume there is a perfectly competitive banking sector. Each bank can take deposits and make loans but faces the same private information problem. Compute the gross deposit rate that the bank will offer. Compare your result with part (c) and explain the role of banks
