Question

Suppose you are about to buy a car and ask to see a vehicle history report to check previous accidents or problems reported for that car. When you are told that this information is not​ available, you decide not to buy the car.

A) Do ypu think this illustrates an adverse selection or moral hazard problem?
B) What is the connection between the lack of information and the probability that a transaction will occur?

Answer 1

A) Do you think this illustrates an adverse selection or moral hazard problem?

This situation represents an adverse selection problem since the seller probably has access to more information about the car than you. Since the seller is hiding the information, it might mean that it is negative and would certainly affect your purchase decision. A moral hazard problem happens when someone takes unusually high risks because he/she has nothing to lose with the transaction.

B) What is the connection between the lack of information and the probability that a transaction will occur?

In perfect markets, information is perfect and therefore, the number of transactions maximizes. It is just common sense, imagine you want to buy a house, you will at least want to see the house and check all the documents. No one will buy a house just because a real estate agent tells them it is a nice house and it is located on a nice neighborhood.