When thinking about information asymmetry in transactions (e.g. insurance, market for lemons), I can think of several axes for comparison:
whether the thing happens before or after the transaction
whether the buyer or seller has more information
whether the asymmetry is about a good or about an action
Insurance-like transactions pick “after”, “buyer”, and “action”: the person buying the insurance can choose to act more carelessly after purchasing the insurance.
Market for lemons cases pick “before”, “seller”, and “good”: prior to the transaction, the seller of the good knows more about the quality of the good.
So in many typical cases, the three axes “align”, and the former is called a moral hazard and the latter is called adverse selection.
But there are examples like an all-you-can-eat buffet that sets a single price (which encourages high-appetite people to eat there). This case picks “before”, “buyer”, and “action”. So in this case, 2⁄3 of the axes agree with the insurance-like situation, but this case is still classified as adverse selection because the official distinction is about (1).
Wikipedia states “Where adverse selection describes a situation where the type of product is hidden from one party in a transaction, moral hazard describes a situation where there is a hidden action that results from the transaction” (i.e. claims that (3) is the relevant axis) but then on the same page also states “For example, an all-you-can-eat buffet restaurant that sets one price for all customers risks being adversely selected against by high appetite” (i.e. classifies this example as adverse selection, even though classifying according to (3) would result in calling this a moral hazard).
Does anyone know why (1) is the most interesting axis (which I’m inferring based on how only this axis seems to have names for the two ends)?
When thinking about information asymmetry in transactions (e.g. insurance, market for lemons), I can think of several axes for comparison:
whether the thing happens before or after the transaction
whether the buyer or seller has more information
whether the asymmetry is about a good or about an action
Insurance-like transactions pick “after”, “buyer”, and “action”: the person buying the insurance can choose to act more carelessly after purchasing the insurance.
Market for lemons cases pick “before”, “seller”, and “good”: prior to the transaction, the seller of the good knows more about the quality of the good.
So in many typical cases, the three axes “align”, and the former is called a moral hazard and the latter is called adverse selection.
But there are examples like an all-you-can-eat buffet that sets a single price (which encourages high-appetite people to eat there). This case picks “before”, “buyer”, and “action”. So in this case, 2⁄3 of the axes agree with the insurance-like situation, but this case is still classified as adverse selection because the official distinction is about (1).
Wikipedia states “Where adverse selection describes a situation where the type of product is hidden from one party in a transaction, moral hazard describes a situation where there is a hidden action that results from the transaction” (i.e. claims that (3) is the relevant axis) but then on the same page also states “For example, an all-you-can-eat buffet restaurant that sets one price for all customers risks being adversely selected against by high appetite” (i.e. classifies this example as adverse selection, even though classifying according to (3) would result in calling this a moral hazard).
Does anyone know why (1) is the most interesting axis (which I’m inferring based on how only this axis seems to have names for the two ends)?