4.1.2.2 Imperfect Information

imperfect information

means that buyers or sellers do not have full or accurate knowledge when making decisions

homo economicus assuming that people make rational choices based on perfect information

What causes imperfect information?

lead to the best outcomes

without full information, choices may not

asymmetric information

a type of imperfect information where on side knows more than the other

lemon’s car market

• where the seller knows the car’s quality but the buyer does not

• this can causes buyers to offer lower prices and good quality sellers may leave the market

• as a result, imperfect information can lead to a misallocation of resources and market failure, as only poor-quality products remain in the market

over-estimating benefits

If people had better/fuller information on the benefits to themselves of consuming a good/service => marginal private benefit curve would shift lower leading to a smaller equilibrium quantity

under-estimating cost

Market demand would be lower if consumers had better information

the impact of consumption decisions on the health and well-being of people in the long term

real world example of under estimating costs

George Akerlof

• Most important contributions is his theory of markets under asymmetric information

• Most famous example is the “markets for lemons”

Akerlof’s theory of markets under asymmetric information

this theory explains how markets function when one party has more or better information than the other

bounded rationality

• The idea that humans have limited cognitive resources and are unable to make completely rational decisions

• Existence of information gaps is directly related to this

based on available information and when there are information gaps, this lead to sub-optimal choices, making them rely on heuristics

Bound rationality means consumers make decisions

cost of acquiring and processing information

bounded rationality also takes into account the

price-quality, familiarity, brand loyalty, availability

examples of heuristics