Asymmetry of information
- Theoretical approach of information asymmetry.
- Moral hazard.
- Moral hazard in economics.
- Lending and debt.
- Abraham Lincoln and an example of moral hazard.
- Moral hazard in insurance.
- Adverse selection.
- Practical cases.
- The market for lemons.
- The stock market.
In economics, information asymmetry occurs when one party to a transaction has more or better information than the other party. (It has also been called asymmetrical information). Typically it is the seller that knows more about the product than the buyer, however, it is possible for the reverse to be true: for the buyer to know more than the seller. Information asymmetry models assume that at least one party to a transaction has relevant information whereas the other(s) do not. Some asymmetric information models can also be used in situations where at least one party can enforce, or effectively retaliate for breaches of, certain parts of an agreement whereas the other(s) cannot. In adverse selection models the ignorant party lacks information while negotiating an agreed understanding of or contract to the transaction, whereas in moral hazard the ignorant party lacks information about performance of the agreed-upon transaction or lacks the ability to retaliate for a breach of the agreement.
[...] The more autonomy the agent enjoys and the greater the information the agent possesses, and the greater the specialised knowledge required to perform the task, the greater the chances for the occurrence of moral hazard (Holmstrom, 1979) The problem of moral hazards for insurance can't be eliminated, but can be minimized. For example : Getting detailed information to evaluate the value of what is being insured, rather than simply taking the word of the person buying the insurance. Requiring that there be a deductible (an initial up-front sum which the insured must pay out of his or her own pocket in case of a loss), and/or only paying out a percentage of the loss (say or 90 percent) via a coinsurance clause. [...]
[...] In this way, the 'better informed' investors will obtain a trading advantage (i.e., a trading premium) over the others. Conclusion We see that the asymmetry of piece of information enriches the economic thinking, by showing the difficulties of application of one of the conditions of the theory of the pure and perfect competition. The piece of information is imperfectly distributed, certain agents being naturally, and in a passing way, better informed than the others. Furthermore, the use of the information does not follow totally the hypotheses of rationality of the agents ( behavioral finance). Besides, the agent can [...]
[...] Although information asymmetry has recently been noted to be on the decline thanks to the Internet, which allows unknowledgeable users to acquire heretofore unavailable information such as the costs of competing insurance policies, used cars, etc. (See Freakonomics.) it is still heavily applied to human resource and personnel economics regarding incentive schemes when the employer cannot continually observe worker effort. I - Theoretical approach of information asymmetry Moral Hazard The risk that a party takes in a transaction when it has not entered into the contract in good faith, has provided misleading information about its assets, liabilities or credit capacity, or has an incentive to take unusual risks in a desperate attempt to earn a profit before the contract settles. [...]