Intermediate Microeconomic Theory I
ECON 2300 – Summer 2011 – Mark Melatos
Topic 10 – Asymmetric Information and Contracts – July 26
- Asymmetric information market failure.
- One party to a transaction knows more than the other party.
o E.g. 1 – product quality seller knows more than buyer.
o E.g. 2 – Health insurance consumer knows more than insurance
o E.g. 3 – work effort – employee knows more than employer.
- Asymmetric information leads to two problems:
o ‘Adverse Selection’ hidden characteristics (e.g. health insurance).
o ‘Moral hazard’ hidden action (e.g. health insurance, employment
- Result… Opportunistic behaviour
o E.g. 1 – seller overstates product quality (to charge a higher price).
o E.g. 2 – insurance customer overstates health (to obtain a lower
- How do we solve this problem?
o Screening (e.g. health checks).