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Asymmetrical information Theory of asymmetrical information proposes that a lopsided information between buyers and sellers results in sellers promote low quality products deliberately, for the value difference between good products and bad products are generally larger than the actual payoff of selling good products. In the end, asymmetrical information will probably lead to a reduction in average market quality and the market size because buyers will be reluctant to purchase goods from the market.

In 2001 George A. Akerlof, A. Michael Spence and Joseph E. Stiglitz shared the Nobel Prize in economy “for their analyses of markets with asymmetric information”.

Akerlof uses two steps below Market for Lemons to explain asymmetrical information:

Market for Lemons (A.Akerlof, 1974)

There are many markets in which buyers use some market statistic to judge the quality of prospective purchases. In this case there is incentive for sellers to market poor quality merchandise, since the returns for good quality accrue mainly to the entire group whose statistic is affected rather than to the individual seller. As a result there tends to be a reduction in the average quality of goods and also in the size of the market.

1.The Automobile Market Suppose in a used-car market, there are only four types of cars: New cars and used cars, good cars and bad cars. A new car can be a good car or lemon, and this is also true for a used car.

A buyer wants to buy a new vehicle without knowing whether the vehicle is good or a lemon. But the buyer does know the probability q for a good car whereas (1 - q) for a lemon. After a length of time, the buyer will be able to more accurately estimate the quality of his car than original estimate, which enables him to assign a new probability to the case that the car is a lemon. An asymmetric information has then been developed, for the seller have more knowledge of the car’s situation than the buyer. In this case, it is obvious that a used car will not be valuated the same as a new car and therefore, to trade a lemon at the price of a new car and buying another new car with higher probability q of being a good car and lower (1 - q) of being a bad car will be no doubt favourable if they are of the same valuation. Thus, owners of good cars will be locked in since they can neither receive the true value of their cars nor acquire expected value of a new car.

Under Gresham's Law, bad cars tend to drive out good cars (legally overvalued currency will tend to drive legally undervalued currency out of circulation) However, the analogy is not complete in our case: The difference between these two is that investors can distinct bad and good currency in Gresham’s law, but buyers cannot tell the difference between good and bad cars not before after some time under information asymmetric. As a result, Gresham’s law reveals the result, but it is not complete theoretically.
 * Bad cars drive out good cars because they are sold at the same price.
 * Bad currency drives out good currency because their exchange rate is equal.

2.Asymmetrical information It is foreseeable that lemons can drive out good cars from the market. Nevertheless, in markets with multiple product grades, morbid results could have happened: bad expels not quite bad expels middle expels not quite good and at last, expels good, which circumstance is not existing in any markets.

To argue this, we can suggest that demand Q^d for second-hand cars depends on: p, Price σ, Average quality so Q^d = D(p, σ) The supply (S) and average quality of second-hand cars (σ) depend on price (p), so: -S = S(p) - σ = σ_((p)) At last, the equilibrium between supply and demand can be concluded as: D(p, σ_((p))) = S(p), σ_((p)) may possibly fall after p falls. Assume there are two groups of buyers with given utility function respectively: U_1= C + ∑_(i=1)^n▒x_i,  U_2= C + ∑_(i=1)^n▒〖3/2x〗_i , where C is the consumption expect buying used cars for both groups, n is the number of cars and x_i is the quality for number i car. And assume following conditions: (1) Both groups are Von Neumann-Morgenstern maximizers who tend to maximize their utilities. (2) Group 1 owns n cars with qualities distribute uniformly from 0 to 2, x_i ∈ [0,2], while group 2 has no cars. (3) C is an invariable. Suppose the income of group 1 is Y_1 and the income of group 2 is Y_2, all the consumption including used cars will be covered in income, demand and supply of group 1 will be: If σ/p >1, D_1= Y_1/p If σ/p <1, D_1= 0 If p∈ [0,2], S_1= σ n, where σ= p/2 (see (2)) Demand of group 2 will be: If 3σ/2 > p, D_2= Y_2/p If 3σ/2 < p, D_2= 0 S_2= 0 (see (2)) The total demand will be the aggregate demand of group 1 and group 2: If σ > p, D= (Y_1 + Y_2)/2 If 3σ/2 > p, D = Y_2/p If 3σ/2 < p, D = 0 Because σ= p/2, theoretically no deals will be made for D = 0. As a result, an asymmetrical information can lead to a break down of a “Lemon market”. In conclusion, under asymmetrical information, uncertainty like Market of Lemons will lead to a situation like prisoner dilemma, where two individuals trying to maximize their own benefits and fail to acquire optimal payoff in the end.