Adverse selection

Adverse selection (in German "negative risk selection") describes a situation in which undesirable results systematically occur in a market because the buyer only has insufficient information. If consumers know little about the quality of a product, they will base their expectations and willingness to pay on the average quality of the corresponding product.

Vendors will withdraw higher quality products from the market because buyers are only willing to pay prices for average quality. As a result, the average quality of all products offered on the market drops. The buyers in turn check their quality assessment and then pay even less for the product. Because products of medium quality can no longer find buyers, they are taken off the market and the average quality continues to decline. At the end of this process, only products of very poor quality are offered. The first model for this was derived from George A. Akerlof in 1970.

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