Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/103937 
Year of Publication: 
2014
Series/Report no.: 
Center for Mathematical Economics Working Papers No. 522
Publisher: 
Bielefeld University, Center for Mathematical Economics (IMW), Bielefeld
Abstract: 
This work takes a closer look on the predominant assumption in usual lemon market models of having finitely many or even only two different levels of quality. We model a situation which is close to the classical monopolistic setting but admits an interval of possible quality values. Additionally, to make the model interesting, the consumer receives a signal which is correlated to the quality level and is her private information. We introduce a new concept for the consumer reaction to the received information, encompassing rationality but also allowing for a certain degree of imperfection. We find that there is always a strictly positive price-quality relation in equilibrium but the classical adverse selection effects are not observed. In contrast, low quality levels do not make any sales. After applying a refinement to these equilibria, we show that when the additional signal is very precise, more low quality levels are excluded from the market. In the limit of perfect information, the market breaks down, a behavior completely opposed to the original perfect information case. These different and quite extreme results compared to the classical lemon market case should serve as a warning to have a closer look at the assumption of having finitely many quality levels.
Subjects: 
Quality uncertainty
Price signaling
Adverse selection
Two-sided incomplete information
JEL: 
C72
D42
D82
Document Type: 
Working Paper

Files in This Item:
File
Size
587.54 kB





Items in EconStor are protected by copyright, with all rights reserved, unless otherwise indicated.