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Nobel Prize for “Asymmetric Information”

G. Akerlof, M. Spence, J. Stiglitz win prize “for their analyses of markets with asymmetric information”

Asymmetric information

Much of economic analysis assumes that markets are characterized by full information: both buyers and sellers know everything about the product they are buying or selling.

However, many markets are characterized by the fact that either the buyer or the seller has considerably more information about the product than does the person or firm on the other side of the transaction. Akerlof, Spence, and Stiglitz won the 2001 Nobel Prize for illustrating the importance of asymmetric information in various kinds of markets and situations.

(Stiglitz recently noted that it’s not that economists were unaware that people had different amounts of information, it was just thought that information asymmetries were not necessarily very important. Akerlof, Spence, and Stiglitz, showed both how and why the asymmetries mattered, as well as developed important applications of the basic idea.)

Market for lemons

George Akerlof illustrated the most famous example of asymmetric information in his 1970 paper on “The Market for Lemons”. The paper examined the market for used cars to illustrate the importance of informational asymmetries. The scenario is quite simple – the seller of a used car usually knows more about it than does the buyer. They know, for example, how well it runs on the highway, in the snow, when it’s hot outside, etc. The buyer knows relatively little. So if a seller offers to sell the car for, say, $5,000, the buyer should be suspicious, since, if the car were worth more than 5,000, the owner would not be selling it at that price. In this case, Akerlof showed, the market may break down completely.

This general idea can be used to explain many issues in many markets. Perhaps the most important market with significant asymmetric information is the market for health care. The buyer knows much more about her health and habits than does the insurance seller. For example, a company that offers a really good (but expensive) health policy will find that only the sick (or likely to be – say the smoking, sky-diving, race car drivers of the world) will buy that kind of insurance. Only those who expect to get more from the policy than they pay in premiums will be likely to purchase, meaning that the people who buy will be less healthy, and likely to make the policy unprofitable for the firm.

The consequences of asymmetric can be profound. In the extreme, markets with asymmetric information may simply cease to exist. In other cases, asymmetric information will cause the market to “behave badly” and thus create an opportunity for a government or some external organization to come in and intervene to improve the private market outcome.

Links

Past winners

1969. R. Frisch, J. Tinbergen
“developed and applied dynamic models”

1970. P. Samuelson
“economic theory and… raising the level of analysis in economic science”

1971. S. Kuznets
“empirically founded interpretation of economic growth”

1972. J. Hicks, K. Arrow
“general economic equilibrium theory and welfare theory”

1973. W. Leontief
“development of the input-output method”

1974. G. Myrdal, F. Von Hayek
“theory of money and economic fluctuations and… analysis of the interdependence of economic, social and institutional phenomena”

1975. L. Kantorovich, T. Koopmans
“theory of optimum allocation of resources”

1976. M. Friedman
“consumption analysis, monetary history and theory and… demonstration of the complexity of stabilization policy”

1977. B. Ohlin, J. Meade
“theory of international trade and international capital
movements”

1978. H. Simon
“decision-making process within economic organizations”

1979. T. Schultz, A. Lewis
“economic development research”

1980. L. Klein
“econometric models … analysis of economic fluctuations and economic policies”

1981. J. Tobin
“analysis of financial markets”

1982. G. Stigler
“industrial structures, functioning of markets and causes and effects of public regulation”

1983. G. Debreu
“new analytical methods… and… rigorous reformulation of the theory of general equilibrium”

1984. R. Stone
“development of systems of national accounts”

1985. F. Modigliani
“analyses of saving and of financial markets”

1986. J. Buchanan
“contractual and constitutional bases for the theory of economic and political decision-making”

1987. R. Solow
“contributions to the theory of economic growth”

1988. M. Allais
“theory of markets and efficient utilization of resources”

1989. T. Haavelmo
“probability theory foundations of econometrics and his analyses of simultaneous economic structures”

1990. H. Marlowvitz, M. Miller, W. Sharpe
“pioneering work in the theory of financial economics”

1991. R. Coase
“clarification of the significance of transaction costs and property rights for the institutional structure and functioning of the economy”

1992. G. Becker
“extended the domain of microeconomic analysis to a wide range of human behaviour”

1993. R. Fogel, D. North
“renewed research in economic history”

1994. J. Harsanyi, J. Nash, R. Selten
“equilibria in the theory of non-cooperative games”

1995. R. Lucas
“hypothesis of rational expectations, and thereby having transformed macroeconomic analysis”

1996. J. Mirrlees, W. Vickrey
“economic theory of incentives under asymmetric information”

1997. R. Merton, M. Scholes
“for a new method to determine the value of derivatives”

1998. A. Sen
“for his contributions to welfare economics”

1999. R. Mundell
“for his analysis of monetary and fiscal policy under different exchange rate regimes and his analysis of optimum currency areas”

2000. J. Heckman, D. McFadden
“theory and methods that are widely used in the empirical analysis of individual and household behavior”

2001. G. Akerlof, M. Spence, J. Stiglitz.
“for their analyses of markets with asymmetric information”

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