ECON 211 Chapter 22 asymmetric information

complete information

situation in which all partcipants in an economic exchange know relevant information

asymmetric information

situation in which there is an imbalance of information across market partcipants

2 types of groups asymmetric information groups

informed party and uninformed party

first types of asymmetric information

unobserved characteristic, representing the quality of the good

adverse selection

tendency for mix of unobserved character to become undesirable from perspective of uninformed party

first solution to adverse selection (more information)

signaling, where informed party tries to convey private information to uninformed through warranties, networks, and reputation

second solution to adverse selection (more information)

screening, where uninformed party tries to induce informed to reveal private information

second type of asymmetric information

unobserved actions, shich occurs after economic relationship has been established

unobserved actions create what problem

principle-agent problem

moral hazard

when imperfectly observed agents engage behavior that is risky or undesirable for principle

solution to moral hazard

align incentives and commission