Discuss the concept of asymmetric information. Explain the relation among moral hazard, adverse selection and signaling, giving suitable examples.
Asymmetric information signifies a situation in which one party involved in transaction with another, has more or superior knowledge and information than the other. This is often the case between buyer and seller, where seller has more knowledge than buyer. However, the opposite condition can also happen at times. The situation can potentially be harmful as the party with more information can take advantage of other’s lack of knowledge and thereby exploit the other party.
Asymmetric information is the source of two major problems such as the following:
· Moral Hazard - This reflects on the immoral behavior of a party with asymmetric information subsequent to a transaction. For example, some people commit arson purposely to reap benefits from the fire insurance. After being insured, a driver may drive recklessly as damage
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