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 [...]
[...] On the most abstract level, it refers to a market process in which bad results occur due to information asymmetries between buyers and sellers: the "bad" products or customers are more likely to be selected. A bank that sets one price for all its checking account customers runs the risk of being adversely selected against by its high-balance, low-activity (and hence most profitable) customers. Example: Insurance The term adverse selection was originally used in insurance. It describes a situation where, as a result of private information, the insured are more likely to suffer a loss than the uninsured. [...]
[...] The Filipino people pay this debt at a rate of $170,000 a day in interest and will continue to do so until 2018, even though they have not received even a single watt of energy. This project alone accounts for more than of the country's total debt." Note, this example applies to Marcos only since Westinghouse did believe the plant would become operational. Deregulation The term "moral hazard" is sometimes used in the context of economic deregulation. A supporter of deregulation might argue that guaranteed high wages and strictures on employment conditions create worker inefficiency and reduce industrial productivity by entrenching worker benefits regardless of the quality of their work. [...]
[...] Asymmetric information In the usual case, a key condition for there to be adverse selection is an asymmetry of information - people buying insurance know whether they are smokers or not, whereas the insurance company doesn't. If the insurance company knew who smokes and who doesn't, it could set rates differently for each group and there would be no adverse selection. However, other conditions may produce adverse selection even when there is no asymmetry of information. For example, some U.S. [...]
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