Economics • Economic BasicsMedium
What is 'Adverse Selection' in the context of asymmetric information?
A. A situation where insured individuals take higher risks after signing a policy.
B. A market process where undesirable results occur because buyers and sellers have asymmetric information, often causing high-quality goods to be driven out of the market.✓ Correct Answer
C. The tendency of firms in an oligopoly to collude on pricing strategies.
D. The reduction in consumer surplus due to the imposition of a price ceiling.
💡 Solution & Explanation
Adverse selection occurs in markets characterized by asymmetric information where one party possesses more information about unobserved characteristics than the other, leading to an unhealthy mix of high-risk participants. Moral hazard, by contrast, describes situations where a party takes greater risks after a financial transaction or insurance contract is secured. Understanding market failures caused by asymmetric information is vital for economic theory questions.
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