Asymmetric Information Hinders The Efficiency Of the Market System:
Because of asymmetric information, the dishonesty in the market may generate. The cost of this dishonesty lies not only the amounts by the buyer are cheated but it also includes the loss incurred from the not existence of the legitimate business. As a result, of the mechanism described in the Akerlof’s paper, market mechanism or existence of market may fail altogether in a certain situation in case of quality uncertainty. For example, the market of used cars is in the Akerlof’s paper. Difficulties of buying health insurance of elder people, the credit market dearth in the developing countries also are the examples of this asymmetric information.
No buyers can able to evaluate the value of the product by their personal observation before the sale is made between two parties. And in such a case sellers can able to assess the value of the product more accurately before the sale is conducted. So it is clear that because of asymmetric information it has a great possibility to become better off of one group and worse off of another group. So by the concept of efficiency, it is not the optimum solution of market mechanism and creates many more problems in the society rise from this asymmetric information (Akerlof, 1970).
Information Asymmetric can lead to many problems that could be well understood through the following discussion.
What Is Adverse Selection:
According to economic theory, information asymmetry is more problematic and harmful in case of adverse selection in the market. A person can do immoral behavior before transaction because of asymmetric information. For example, a person with less than optimum health stock may be more inclined to buy the life insurance than somebody who feels very well. In such a case the decision of one agent depends on unobservable characteristics that affect adversely another type of agents. For the illustrating missing market, use used-automobile market. For illustrating these inefficiencies, signaling and screening mechanisms could be one of the best Pareto-efficiency methods (Akerlof, 1970).
What Is Moral Hazard?/Hazard Insurance Definition:
In economics, moral hazard occurs when a more informed party has a tendency to behave inappropriately from the perspective of the less informed party. The problem of moral hazard generally occurs when one person takes comparatively more risk than another person because someone bears the burden of that risk. The problem of moral hazard may occur in the situation where one party’s actions may change the detriment of another after conducting the financial transaction between them. A person can do immoral behavior after transaction because of asymmetric information. For example, a person with fire insurance may be more likely to promise arson to get the benefits of that insurance.
Information is not perfect in many markets. Asymmetric Information Moral Hazard exists in many sectors. Terminology agent and principle are very familiar in health economy. Who takes health service is an agent and those who provide this service are a principle. In the case of health service the agent does not know surely the true information. Because in some of the case agent is not familiar about his problem in such a case they have to fully depend on the information provided by the principle. The principle takes these opportunities and by giving incorrect information, they try to fulfill their own benefit. This is a very big problem in health care market. In existing of this problem, the government is the only one who can solve this problem by giving true information to the patients (RAHMAN SUBAHAN 2003).
What is Market Failure?
The market failure situation generally occurs in the case of inefficient allocation of goods and services. The market failures are associated with the terms information asymmetry, non-competitive market, externalities etc. Because of asymmetric information market may not work properly, where one person wants to be better off and another person has the possibility of worse off. Because of asymmetric information, the dishonesty in the market may generate. The cost of this dishonesty lies not only the amounts by the buyer are cheated but it also includes the loss incurred from the not existence of the legitimate business (ROSEN 2010).
Monopoly situation is always a a bad for the economy. Information monopoly is not separated from it. Information monopoly is the situation where one person has only the right information (seller), and other (buyers) groups have not adequate information. As a result, the group of buyers becomes worse off and the seller becomes better off because of his correct information. Monopoly Market failure example, the used car market, where the seller only knows for sure about the condition his car and the group of buyers do not know for sure about the condition of the car. In such a case the car seller becomes benefited and buyers do not benefit because of unavailability of information (STIGLITZ 2010).
Solution to Asymmetric Information:
Occasionally there create a situation where the consumers are not able to take an educated purchasing decision, increasing the possibilities of asymmetric information. Lemon market problem and the problem of asymmetric information are generally prevalent in many industries, mostly observed in automobile, healthcare, banking and many professional services industries. There are some possible solutions of asymmetric information problems. That could be well understood through the following discussion (Cavallaro, 2012).
Availabilities of Information:
Among the possible solutions of asymmetric information increasing the access to information is paramount. Creating the opportunities of greater access to information for consumers addresses directly the problem of asymmetric information. It is almost impossible to provide all the information to all consumers they need at a time, but it is possible to provide enough information to the consumers to make an educated decision. As a result, along with increasing aggregate consumer satisfaction, the overall quality of the product can also be increased by providing enough information to the consumers (Cavallaro, 2012).
Guarantees and Warranties:
By attracting customers with ensuring high-quality products and services, guarantees and warranties both help the firms to get more benefits. As the same time the customers who have received a faulty product, will also beneficial by returning the item or replacing the item to the sellers (Ross, 2013).
Tax and Subsidies:
It is very common intervention policy of the government in case of market imperfection. We know health care market is not fully competitive. In this market, someone become more beneficial and someone become worse off. In the health care market, the principle that means the doctor in such a is a beneficial person because by giving imperfect information, by controlling health care labor market, by imposing monopoly power many doctors become better off by taking additional payment from patients. The government can complete the market in such a situation or government can make a balance between loser and gainer. The process is very simple; the government will impose an additional tax to the doctor and provide subsidies to the people who are the receiver of health care.
Industries may set few conditions to provide the goods and services that meet the industrial standard. It will ensure to provide high qualities products and services in the market. Information asymmetry is more problematic and harmful in case of adverse selection in the market. For example, a person with less than optimum health stock may be more inclined to buy the life insurance than somebody who feels very well. A person can do immoral behavior before transaction because of asymmetric information. To compensate for the unavailable information, to offset the risk of uncertainty, the health insurance company can able to increase all the premiums. It means that the riskiest people price out some of the comparatively less risky people. As health care market have imperfect information so it is essential to provide true information to the patients. Most of the doctor in health care market provides wrong information or incomplete information for their personal benefit (Cavallaro, 2012).
Monitoring and Controlling:
Proper monitoring and controlling are other big challenges for the government. The government should take responsibilities for intervening all of the aspects in sectors that have information gap problems. Without proper monitoring and controlling, firms may suffer by various problems done by the illegal beneficiaries.
It is another very important form by which government can intervene in asymmetric information situation. For example regulation in health care market, it can take place in health care market in various forms, such as price regulation, quality of service & quantity of service regulation etc. Here price regulation means the government will fix the price. Alternatively, in economics term, it is called government will determine the price floor in the health sector. Quality regulation means government must set a minimum quality of the doctor. Without fulfilling the quality, no one will enter into the health sector. Quantity regulation means the government will fix the amount of service that a doctor will provide in each day or month and the patients who will that amount of service from the hospital (HARVEY S ROSEN 2010).
External Product Certification:
Along with many more solutions, it will make the solution of asymmetric information by ensuring eternal product certification for the firms. As a result, the consumers can take the help from experts to verify the qualities of the goods and services (Ross, 2013).
Liability Laws and Licensing:
As a part of consumer protection, liability laws implemented by the government can help to overcome the problem of asymmetric information. It may subject to fines or penalties for the firms who do not meet the minimum industrial standard. Along with liability laws, the licensing for the firms will help to sell good standard of goods and services in the market. (STIGLITZ, 2010).
Asymmetric information creates an imbalance in market transactions in terms of power, as a result market mechanism may not work properly, and this creates ultimately market fail in the economy. Information asymmetry also creates inefficiency in the market, as a result, someone becomes better off and someone becomes worse off in that situation. Because of market imperfection, the same problem creates in many firms. Welfare loss arises in health care market because of asymmetric information provided by the health care provider (JACKY MATHONNAT 2008). There are many possible solutions that can help to avoid the problem of asymmetric information. Among them, the most important solution is to ensure to provide adequate information among people. Guarantees and warranties, tax and subsidies, setting industrial standards, monitoring and controlling, external product certification, liability laws and licensing also help to overcome the problem of information asymmetry in the market.
Yale University, Economics.