The Market for Lemons: Quality Uncertainty and
the Market Mechanism by Economist George
Akerlof
E.Asena Deniz
November 08, 2020
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Introduction
Akerlof examines how the quality of goods traded in a market that changed
according to asymmetric information between buyers and sellers, also lemon
problem which is an American Slang.This paper is telated to quality and uncertainty.
The lemon problem has been put forward to refer to problems arising from
asymmetric information owned by the buyer in relation to the value of an investor or product. The problem of asymmetrical information arises because
buyers and sellers don’t have equal amounts of information required to make an
informed decision regarding a transaction. The seller knows its true value, or at
least knows whether it is above or below average in quality. Potential buyers,
do not have this knowledge.According to his Automobile sector example, buyers
cannot distinguish between a high-quality car and a ”lemon”. Then they are
only willing to pay a fixed price for a car that averages the value of a ”good”
and ”lemon” .But sellers know whether good or lemon. Buyer will pay average
price for lemon car and as a result of this situation, the seller will be able to get
a premium for low quality goods as opposed to high quality goods.However,this
situation which are uninformed buyer’s price create an adverse selection.The author also argued that there may be similarities between the lemon problem and
Gresham’s law.Accordingly, the fact that the cars that are sold as the majority
are lemons causes the existence of the bad cars as good in the market.
Another situation where the ”lemon problem” is experienced is related to
insurance policies. The insurance company has less information than the customer about the risks of a customer who wants to insure it. If the company
knew exactly how risky the customer was, the insurance premium could be determined according to his / her risk level. The principle of ”adverse selection”
is potentially present in all lines of insurance.
In briefly, his paper shows how prices can determine the quality of goods
traded on the market. Low prices drive away sellers of high-quality goods, also
lemon problem. He focuses on the asymmetric information and adverse selection
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and their result. He also mentioned those in which sellers of a product have more
information than buyers about the product’s quality.
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