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Asymmetric Information

Reviewed by Sweta | Updated on Sep 30, 2020

Catalogue

Introduction

Asymmetric information refers to a situation where one person has more information about a transaction than the other contracting party or person. A typical case of asymmetric information is where the vendor or seller has more knowledge of the product than the buyer.

Understanding Asymmetric Information

Asymmetric information exists in both the trading of regular economic goods as well as the provision of professional services. For example, a civil engineer knows more about the effects of a particular type or style of construction and the effects of materials used than the person constructing the house. Doctors know more about the gravity of illness and the procedure for medical treatment than their patients.

The principle also applies to other professionals, such as teachers, attorneys, architects, and investment advisors. The specialisation of the workforce in an economy leads to information asymmetry where a specialised set of individuals or professionals provide services to the common man. Here, there is an information asymmetry between the professional and the common man.

Individuals can study fields in which they can provide the most value to society at large. The common man is unlikely to have knowledge of various fields since it would be impractical as well as the job opportunities would be low for such individuals. Alternatively, information of common interest which is asymmetric in nature can be shared in an expensive manner on the internet.

Asymmetric information has certain disadvantages to a contracting party. For example, in insurance contracts, the asymmetry of information between the insured and the insurer results in an adverse selection for the insured. In certain other economic contracts, a party can sue the other for breach of trust due to asymmetric information.

Conclusion

Most of the economic transactions involve information asymmetry in one way or the other. There may be certain disclosure policies or agreements signed to avoid losses due to asymmetric information. For example, insurance agents carry out in-depth health screenings and an actuarial examination of the risk profiles of potential customers.

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