Reference no: EM131487988

Asymmetric Information is part of your syllabus so this paper helps you to understand the origin of the concept in economic theory more clearly. This paper "The Market for Lemons" Akerlof gave a new explanation for a well-known phenomenon: the fact that cars barely a few months old sell for well below their new-car price. Akerlof's model was simple but powerful. Assume that some cars are 'lemons' (low quality) and some are plum (good quality). If buyers could tell which cars are lemons and which are not, there would be two separate markets: a market for lemons and a market for 'plum'. But the market is not segregated. Information about the product to the buyers and sellers is not equal (asymmetric): buyers cannot tell which cars are lemons, but, of course, sellers know. Therefore, a buyer knows that there is some probability that the car he buys will be a lemon and is willing to pay less than he would pay if he were certain that he was buying a plum. This lowers the price for all used cars and discourages sellers of plum. Although some would be willing to sell their own cars at the price that buyers of good quality used cars would be willing to pay, they are not willing to sell at the lower price that reflects the risk that the buyer may end up with a lemon. Thus, exchanges that could benefit both buyer and seller fail to take place and efficiency is lost.

This is the takeaway from the below mentioned paper that you are required to critically review addressing the mentioned questions. Outside references may be produced.

Critically Review the paper entitled The Market for "Lemons": Quality Uncertainty and the Market Mechanism by George A. Akerlof: The Quarterly Journal of Economics, Vol. 84, No. 3. (Aug., 1970), pp. 488-500.

1. What is the actual Problem?

2. Why is there Asymmetric Information?

3. Explain the of 'Costs of Dishonesty' in the transaction.

4. What role does insurance play in such market?

Note:

• To be handed out by 9th week
• Due end of week 13th
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