1.3.4 Imperfect information

Question 1

Symmetric Information

Answer 1

Everyone has equal and perfect knowledge.

Question 2

What is assumed in competitive markets about information?

Answer 2

In competitive markets, it is assumed that there’s perfect information, which means that buyers and sellers are assumed to have full knowledge regarding prices, costs, benefits and availability of products. This is assumed to allow the efficient allocation of resources.

However, in reality, symmetric information rarely exists.
- E.g. buyers often don’t have the time or resources to obtain full information on prices before buying a product.

Question 3

Asymmetric information

Answer 3

Where one party in a transaction has more information than another.

Question 4

What party in the transaction has more information - in an asymmetric information.

Answer 4

It is typically the seller with more information than the buyer.
- For example, a car salesman would have more information about the history and condition of the car they’re selling than the prospective buyer.

However, in some circumstances buyers may have more information than sellers. For example, an antiques collector (buyer) may know more about the value of an antique than the person selling it.

Question 5

How does imperfect information lead to market failure?

Answer 5

Merit goods (e.g. education, health care and pensions) are under-consumed and demerit goods (e.g. tobacco and alcohol) are over-consumed.

Question 6

Why does imperfect information lead to market failure?

Answer 6

Typically because:

• Consumers may not know the full personal benefit of a merit good. They may not realise that a good education could lead to improved future earnings, or that a regular medical check-up might improve their lifespan.
• Consumers may lack the information to decide which good or service is right for them.
• Consumers may not have the information on how harmful a demerit good is, such as alcohol.

Question 7

Why might imperfect information affect the provision of merit and demerit goods?

Answer 7

Due to a lack of information, merit goods tend to be underprovided and demerit goods are overprovided, primarily because individuals don’t know the advantages/disadvantages of consuming a good.

• Information on a good/service may be too difficult to understand. E.g. the technical differences between computers may be confusing to a consumer, so they might struggle to work out which is best for their needs.