Introduction
Access to information is a crucial factor that influences market operations. In an open market, buyers and sellers may have different access levels to information regarding the products, implying that asymmetric information is common in many market situations. According to Pavlov et al. (2022), asymmetric information denotes imperfect, skewed, and inequitable access to information between sellers and buyers. Lopsided knowledge may contribute to market imbalances, necessitating the development of efficient remedies. In regard to product and financial markets, asymmetric information leads to market failure, adverse selection, and knowledge monopolies that can be overcome by developing agency relationships, government incentives, and product regulation.
Consequences
Market Failure
Imperfect market information is a significant cause of market failure, resulting from inappropriate pricing and the abuse of monopolistic power. According to Billett et al. (2017), transaction pricing based on skewed market knowledge does not contribute to the seller’s marginal cost or the buyer’s marginal gain. Market failure makes it more difficult to attain productive viability by distorting price processes and disrupting the normal distribution of commodities and services, resulting in welfare loss. Jackson and Jabbie (2019) assert that market failures are deeply ingrained in the socioeconomic foundation of most developing economies. They result from a lack of well-functioning economic systems and structures that are intended to allow for resilience in the market economy in the face of economic vulnerabilities. In essence, the competitive market is unable to produce an output at the same price as the marginal cost. In some extreme instances, if no mechanism exists to address the issue of information asymmetry, the market will completely collapse.
Adverse Selection and Inequality in the Financial Services Sector
The adverse selection emphasizes the idea that those who engage in high-risk activities are more likely to take out high-interest loans or purchase insurance. Azevedo and Gottlieb (2017) note that information asymmetry leads to imperfect competition and inequalities through adverse selection. Since it is impossible for lenders or insurance providers to know how risky their clients’ behavior is, they must rely on various procedures to evaluate potential borrowers. As these procedures are inherently imprecise, some potentially good consumers are discarded. Moral hazards come into play whereby individuals may conceal information about themselves, hoping to be covered by insurance companies (Azevedo & Gottlieb, 2017). They prefer to finance those who can quickly provide them with information. This usually entails lending to well-known individuals or those with whom they have personal ties.
In addition, poor individuals, particularly those in rural areas, may be denied financial services because they need small-scale services, such as deposit accounts or loans. Since every transaction has an operational expense, it is more challenging for those offering the services to earn a profit on such small transactions (Pavlov et al., 2022). The rural poor frequently live in areas with poor transportation and communications infrastructure, making it difficult and expensive for service providers to obtain the information they require about potential clients.
Knowledge Monopoly and Consumer Manipulation
Individuals in higher positions of authority or institutions may take advantage of their powers to withhold market information from other stakeholders, retaining a competitive advantage. For instance, higher-level managers may require junior employees to undertake some crucial tasks by concealing some information regarding the necessity and impacts of assigned tasks. Similarly, the government can use its authority to avail information to top-level security personnel while withholding it from the general public. Such information may pertain to the national economic status or security level that significantly affects business interactions within the country. In some cases, governments have overpriced the products offered in monopolistic institutions managed by the states without revealing the reasons to consumers.
Notably, many consumers get their products from brokers instead of buying directly from producers. In many cases, brokers have the upper hand, using knowledge monopoly to manipulate both consumers and buyers. As a result of information asymmetry, producers have imperfect knowledge about the market, and they may be forced to sell their products below the market to brokers who later hike the costs. Similarly, buyers may be forced to buy commodities at relatively high prices due to insufficient information about the seller’s pricing model. Mitra et al. (2018) unravel the effect of knowledge asymmetry using a case study of Indian potato farmers, revealing how intermediaries used the information gap to exploit buyers and sellers. Evidently, unstable economic models and communication systems are the main drivers for skewed market data in relation to buyer-seller interactions.
Remedies
Agency Relationships
There are a few general approaches to solving the problem of adverse selection. Developing good relationships between agents and clients is vital for facilitating equitable access to information in the market. Producers should provide warranties, assurances, and refunds as one obvious option. This is especially true in the used vehicle industry. According to Ma (2020), self-regulation mitigates the effects of information asymmetry while minimizing government interference. If the level of asymmetric knowledge between the general populace and private corporations is greater than the magnitude of the monopolistic skew and externalities from the enterprise to society, self-regulation is preferable to government regulation.
Government Intervention
Due to knowledge asymmetry and rising transaction costs, the most efficient distribution of resources may need governmental or other external engagement. Governments are in charge of constructing infrastructure that will lower the operating costs involved in providing services to all members of society. Macedoni (2022) records that the government’s involvement in business activities through licensing and regulation facilitates quality products and service delivery, reducing knowledge asymmetry’s negative effects. Governments can incur risks that commercial lenders may not be willing to take in order to guarantee that everyone who would benefit from financial services has access to them, or they can enact legislation to ensure that the facilities are offered to those who require them.
Product Regulation through Crowdsourcing
Consumers and competitors acting as monitors for one other is another natural and simple response to lopsided market information. Consumer Reports, Underwriters Laboratories, public notaries, and online review sites like Yelp all contribute to filling up the gaps in knowledge. Seller rankings on Amazon and eBay and service ratings provided by Uber driver reviews are all examples of reputation crowdsourcing useful for mitigating the effects of asymmetric information (Courtney et al., 2017). Companies can use online reputation management (ORM) software to monitor what customers are saying about them on review websites, social media, and internet sites.
Conclusion
In conclusion, information asymmetry denotes the market conditions characterized by imperfect market knowledge regarding the products and services offered. Skewed market knowledge contributes to negative consequences such as market failure and consumer manipulation through adverse selection and moral hazards. Self-regulation, government interventions and crowdsourcing are some of the proven techniques that mitigate lopsided information effects in financial and product markets. The type of remedy chosen should be evaluated for efficacy in line with costs and implications.
References
Azevedo, E., & Gottlieb, D. (2017). Perfect Competition in Markets with Adverse Selection. Econometrica, 85(1), 67-105.
Billett, M., Garfinkel, J., & Yu, M. (2017). The effect of asymmetric information on product market outcomes. Journal of Financial Economics, 123(2), 357-376.
Courtney, C., Dutta, S., & Li, Y. (2017). Resolving information asymmetry: Signaling, endorsement, and crowdfunding success. Entrepreneurship Theory and Practice, 41(2), 265-290.
Jackson, E. A., & Jabbie, M. (2019). Understanding market failure in the developing country context. In F. Walter et al. (Eds), Decent Work and Economic Growth: Encyclopedia of Sustainable Development Goals (pp. 1-10). Springer.
Ma, C. (2020). Self-regulation versus government regulation: an externality view. Journal of Regulatory Economics, 58(2-3), 166-183.
Macedoni, L. (2022). Asymmetric information, quality, and regulations. Review of International Economics.
Mitra, S., Mookherjee, D., Torero, M., & Visaria, S. (2018). Asymmetric Information and Middleman Margins: An Experiment with Indian Potato Farmers. The Review of Economics and Statistics, 100(1), 1-13.
Pavlov, V., Katok, E., & Zhang, W. (2022). Optimal contract under asymmetric information about fairness. Manufacturing & Service Operations Management, 24(1), 305-314.