4.1.2.2 Imperfect information

Question 1

What is information failure/gaps?

Answer 1

A type of market failure where individuals or firms have a lack of information about economic decisions.

Question 2

When does information failures occur?

Answer 2

Information failure occurs when people have inaccurate, incomplete, uncertain or misunderstood
data and so make potentially ‘wrong’ or sub-optimal choices.

Question 3

What are causes of information gaps?

Answer 3

1) Misunderstanding the true costs/benefits
2) Complex information
3) Misleading information
4) Addiction
5) Lack of awareness
6) Habitual purchase

Question 4

Give an example of Misunderstanding the true costs/benefits

Answer 4

The side effects of using pain killers

Question 5

Give an example of Complex information

Answer 5

When buying specialist products

Question 6

Give an example of Inaccurate or misleading information

Answer 6

• Persuasive advertising may ‘oversell’ the benefits of a product
  leading to more consumption than is optimal e.g. Cigarettes are good to relieve stress

Question 7

Give an example of Addiction

Answer 7

drug addicts may be unable to stop consumption of harmful substances

Question 8

Give an example of Lack of awareness

Answer 8

Businesses could be unaware of the environmental consequences of their products.

Question 9

Give an example of Habitual purchase

Answer 9

e.g. reordering the same items in an online
grocery shop because consumers are presented with their ‘favourites’ list when they log on

Question 10

What is symmetric information?

Answer 10

Occurs when both parties in a transaction have access to the same, complete, and accurate information

Question 11

What is asymmetric information?

Answer 11

Where one party in a transaction has more information than the other party.

Question 12

Give example of asymmetric information

Answer 12

Landlords who know more about their properties than tenants
o This allows landlords to extract higher rent payments from tenants

Question 13

What is the impact of asymmetric information?

Answer 13

The impact of these gaps is that either an ‘incorrect’ amount is bought and/or the wrong price is paid.

Question 14

What are two important aspects of asymmetric information?

Answer 14

Moral hazards and Adverse selection

Question 15

What is Adverse selection

Answer 15

When sellers have information that buyers do not have, or vice versa, about some aspect of product quality.

Question 16

Example of Adverse selection

Answer 16

The adverse selection problem is seen in health insurance
* Those most likely to purchase health insurance are those who are most likely to use it, i.e.
smokers/drinkers/those with chronic health conditions
* The health insurance company knows this and so raises the average price of insurance cover
* This may price some healthy low-risk consumers out of the market, meaning that mainly higher risk
individuals gain insurance – this causes a market failure

Question 17

What is a moral Hazard?

Answer 17

Occurs when insured consumers are likely to take greater risks, knowing that a claim will
be paid for by their cover

Question 18

Example of Moral Hazard

Answer 18

The consumer knows more about his/her intended actions than the producer (insurer)
A good example of moral hazard is the bail out of the banking system after the 2007 crash.