Information Asymmetry – When lemons taste better than peaches

Information Asymmetry – When lemons taste better than peaches

 

You see it often: negotiating salary, buying a used car, a first date, eating at a new restaurant, bringing science to the public. Until last week, I was unaware of the economic theory behind these interactions: Information Asymmetry – a situation in the marketplace where the buyer or seller is better equipped with information than their counterpart and the consequences of that imbalance.

 

This concept was first introduced in an article called The Market for “Lemons” by George Akerlof using the main example of a car purchase. In summary, while the car-seller alone is aware of the car’s quality i.e. a lemon (bad) or a peach (good), the buyer is only aware of the price and visual examination of the car and has to evaluate quality based on that information. As a recent Economist article explains further, this adversely affects the market as follows: the astute buyer willing to pay the high price for a peach offers a median price to hedge their bets, assuming the car could be either a lemon or a peach. Meanwhile, the peach seller declines this price knowing their car is worth much more and the market is left with different grades of lemons. This is not as much of an issue in today’s market with services like CarFax, but that was not the case in 1970.

 

If we extend this example to dating, the seller, typically a guy (typically, but not always), provides their characteristics on paper: thoughtful, romantic, spontaneous, driven etc. Meanwhile, the buyer cannot be sure of the quality of these characteristics especially when explored through past experiences of prior peaches-on-paper-but-lemons-in-reality. This is even more complicated by the fact that people’s behaviors change with each encounter: today a peach, tomorrow a lemon. Just look at Fritz HaberTidbit 1. Furthermore, the buyer and seller switch roles with each interaction (the pursuer becomes the pursuee). Sidenote: Displacing this kind of information asymmetry in relationships is what the peeple app is/was trying to achieve.

 

For scientists as sellers to the general public, this theory bears even more merit especially when it comes to controversial subjects like climate change, genetically modified organisms and chemical-free items. The marketplace is filled with lemons and this information asymmetry allows pseudo-scientists (e.g. FoodBabe) to thrive. This is why Science Communication is an extremely important area of Science. It’s not simply about having more conversations about science in lay terms, but convincing people of the quality in those conversations relative to the lemons out there.

 

Two things come to mind here:

  1. The buyer/seller has to depend on other signals, which may or may not be reflective of the actual investment: job candidate’s university pedigree (when negotiating salary), car detailing (when buying a used car), date’s current occupation (when on a first date), new restaurant’s location (eating at a new restaurant), passion of the science communicator (when bringing science to the public) etc. This signaling phenomenon was explored by Michael SpenceTidbit 2.
  2. Eliminating/Reducing information asymmetry presents an opportunity for entrepreneurship: Glassdoor and Comparably (for salaries and company culture), Better Business Bureau (for businesses), Yelp (for restaurants). Each of these ventures uses crowd-sourced information and if you are seeking your next idea, opportunities abound in the “symmetry displacement” space.

 

In the end, as a future buyer (or seller), it’s up to you to seek (or put) credible signals in your respective marketplace to ensure that you get fair value for your investment (or effort). There’s the rub.

 

Tidbits

  1. Fritz Haber created the science for large-scale food production and later aided in chemical warfare, excellently covered in a recent article.
  2. George Arkelof, Michael Spence and M Stiglitz shared the 2001 Nobel Prize in Economics for their work in this area of information economics.
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