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The Market for Lemons
Transcript of The Market for Lemons
Overview of paper
Contribution to Economics
Commentary to relate QUALITY and UNCERTAINTY
"the bad drives out the good"
explores information asymmetry
application in the market for cars "many markets exist where there
is incentive for sellers
to market poor quality merchandise" an example Quality Uncertainty and the Market Mechanisms seminar presentation by Kaleigh MacMaster Assume There are Four Kinds of Cars new vs. old good vs. bad ("lemons") Asymmetry of Information sellers have more knowledge about the quality than the buyers
good & bad cars sell at the same price LEMONS GOOD NOTHING SELLS? "as the price falls , normally quality will also fall. And it is quite possible that no goods will be traded at any price level" Gresham's Law - "bad cars drive out the good" Asymmetric Information Adverse Selection the unequal knowledge that each party to a transaction has about the other party process by which the less desirable potential trading partners volunteer to exchange source: The Economics of Money, Banking, and Financial Markets, 4th Canadian Edition, Frederic S. Mischkin and Apostolos Serletis, 2011 owner's driving style quality of maintenance frequency of maintenance accident history 5 Lemon Principle Asymmetric
Information Incentive for
Sellers bad push
out the good 1 2 3 market collapse Applications A. Insurance
B. Employment of Minorities
C. The Costs of Dishonesty
D. Credit Markets in Underdeveloped Countries Contribution one of the most cited papers in economic theory
US Federal "Lemon Law" Commentary reputation of the seller
criticism of minority group analysis Questions? average quality Willing to pay for
average quality higher quality
leave the market average quality
decreases Counteracting Institutions guarantees