Information theory
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This document discusses information asymmetry and its effects on market outcomes. It contains the following key points: 1) Information asymmetry occurs when one party in a transaction has more or better information than the other party, creating an imbalance of power. This can sometimes cause transactions to go awry or result in market failures. 2) George Akerlof's 1970 paper on "The Market for Lemons" investigates how information asymmetry affects market equilibrium in the used car market. Buyers cannot observe the true quality of used cars being sold, giving sellers an advantage. 3) With asymmetric information, buyers can only offer the average market price. Owners of low-quality "lemon" cars have no incentive
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asymmetric information
The document discusses the concept of asymmetric information in markets and its implications. Specifically, it analyzes adverse selection using the example of a used car market where lemons and peaches exist. With asymmetric information, buyers cannot distinguish between lemons and peaches, so the market price is driven down and peaches are crowded out. However, signaling by high quality sellers, such as through warranties or credentials, can help remedy this by credibly informing buyers of quality and separating the market into lemons and peaches.
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A Market For Lemons
Akerlof's market for lemons theory describes how asymmetric information between buyers and sellers in a market can cause market failure. When buyers cannot reliably assess the quality of goods for sale, they will assume the average quality is lower and be unwilling to pay high prices. This forces sellers to lower prices which then incentivizes them to lower quality further. The market may reach a point where only low quality "lemons" remain for sale, even though buyers would pay more for higher quality goods if quality could be verified.
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This document discusses the concept of asymmetric information in markets. It provides examples where one party in a transaction has more information than the other, such as a doctor knowing more about medical services than a patient, or a used car seller knowing more about a car than a buyer. It then discusses some ways asymmetric information can impact market functioning, such as adverse selection and signaling. Specifically, it examines used car markets where "lemons" and "peaches" are sold, showing how adverse selection can lead to only lower quality cars ("lemons") being traded. It also discusses signaling through education, where higher ability workers acquire more education to credibly signal their ability to employers.
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untouched. It hurts business most in this regard, is the automobile industry for
more than one reason. Since its inception, the counterfeit practice has grown to
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So much so, any authorized dealer will tell you how much loss they incur
because somewhere in the supply chain, the counterfeiters enter the scene and
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asymmetric information
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This document discusses the concepts of asymmetric information, uncertainty, and auctions. It begins by defining asymmetric information as situations where one party has more or better information than the other party in a transaction. Examples given include hidden actions by workers that employers cannot observe, and hidden qualities of used goods like cars that buyers are unaware of. The document then explores the economic issues of moral hazard and adverse selection that can result from asymmetric information. It provides examples of signaling and screening methods that parties may use to help resolve information asymmetries.
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Akerlof's market for lemons theory describes how asymmetric information between buyers and sellers in a market can cause market failure. When buyers cannot reliably assess the quality of goods for sale, they will assume the average quality is lower and be unwilling to pay high prices. This forces sellers to lower prices which then incentivizes them to lower quality further. The market may reach a point where only low quality "lemons" remain for sale, even though buyers would pay more for higher quality goods if quality could be verified.
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This document discusses the concept of asymmetric information in markets. It provides examples where one party in a transaction has more information than the other, such as a doctor knowing more about medical services than a patient, or a used car seller knowing more about a car than a buyer. It then discusses some ways asymmetric information can impact market functioning, such as adverse selection and signaling. Specifically, it examines used car markets where "lemons" and "peaches" are sold, showing how adverse selection can lead to only lower quality cars ("lemons") being traded. It also discusses signaling through education, where higher ability workers acquire more education to credibly signal their ability to employers.
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Counterfeiters are all over the field, and they are not leaving any business
untouched. It hurts business most in this regard, is the automobile industry for
more than one reason. Since its inception, the counterfeit practice has grown to
become nearly equal to that of the original in many aspects.
So much so, any authorized dealer will tell you how much loss they incur
because somewhere in the supply chain, the counterfeiters enter the scene and
complicate the situation. More importantly, little administrative intervention or
attention has been given in this regard.
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Information Gaps
Information Gaps content slideshow. Designed for the Economic A level qualification. Can be used in revision and in class.
Subtopics
Intro to Information Gaps
Information Gaps & Merit goods
Information Gaps & Demerit goods
Adverse Selection: Akerlof's Market for Lemons
Moral Hazard & the Principal-Agent Problem
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DBS IB Economics (HL) - Microeconomics: Information asymmetry
1. The document discusses different types of market failure including information asymmetry, moral hazard, and adverse selection.
2. It outlines how sellers may have more information than buyers, and how this can lead to government intervention through regulation and information provision.
3. The document also discusses how insurance markets can experience moral hazard and adverse selection, and how these issues relate to workplace safety regulations.
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Financial distress
This chapter discusses capital structure and the costs and benefits of leverage. It begins by examining default and bankruptcy in a perfect capital market. It then explores the direct and indirect costs of financial distress and bankruptcy. The chapter introduces the tradeoff theory of capital structure, which posits that a firm's value is maximized by balancing the tax benefits of debt against the costs of financial distress. The determinants of these costs are analyzed. The chapter also discusses how agency costs can arise between shareholders and debt holders when a firm is leveraged. Several examples are provided to illustrate the concepts.
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Information Failures in Markets
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Capital structure theories
The document discusses the Modigliani-Miller (MM) approach to capital structure. Some key points:
1) According to MM, the value of a firm and its overall cost of capital are independent of the firm's capital structure.
2) MM assumes that taxes and bankruptcy costs do not exist, and that debt and equity are perfect substitutes for one another.
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4) The document provides an example to illustrate how two identical firms with different leverage would have the same overall value under MM.
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Capital Structure Theories
The document discusses capital structure, which refers to the mix of debt and equity used by a company to finance its long-term operations. It examines several factors that influence a company's capital structure choices as well as different theories about optimal capital structure. The Net Income Theory proposes that firms can maximize value and minimize cost of capital by using as much debt as possible. The Net Operating Income Theory argues capital structure is irrelevant to firm value and cost of capital. The Traditional Theory suggests an optimal debt-equity mix exists. Finally, the Modigliani-Miller Theory states that under certain assumptions, capital structure does not impact firm value or cost of capital, though when taxes are considered, more debt can increase value.
Dividend policy
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The document discusses capital structure, which is the mix of debt and equity used to finance a firm. The value of a firm is equal to the value of its debt plus the value of its equity. The optimal capital structure maximizes firm value by balancing the debt-equity ratio. Factors that influence the capital structure decision include business risk, taxes, financial flexibility, growth opportunities, and market conditions. Leverage increases risk for shareholders but also increases potential returns, as interest payments are tax deductible. Higher debt leads to greater financial risk.
Dividend policy ppt
The document discusses dividend policy and provides details about:
1. The meaning of dividend and dividend policy, and factors that affect dividend policy such as ownership considerations, nature of business, and investment opportunities.
2. Different types of dividends including cash dividend, stock dividend, property dividend, and debenture dividend.
3. Dividend policies of 5 major Indian IT companies - Tata Consultancy Services, Wipro, Infosys, HCL Technologies, and Larsen & Toubro Infotech - and their dividend yields for the fiscal year 2013.
Capital structure analysis
The document discusses different approaches to capital structure and the Modigliani-Miller model. It summarizes key assumptions of the MM model, including that capital markets are perfect, leverage at the personal and corporate level are substitutes, and there are no taxes or transaction costs. The MM model shows that firm value and cost of capital are independent of capital structure.
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This document discusses capital structure and various capital structure theories. It begins by defining capital structure as the mix of owned and borrowed capital used to finance a company's assets. The key considerations in planning capital structure are return, cost, risk, control, flexibility, and capacity. It then covers four capital structure theories - net income approach, net operating income approach, Modigliani-Miller model, and traditional approach. The net income approach proposes that firm value increases with more debt due to lower costs. The net operating income approach argues firm value is independent of capital structure. The Modigliani-Miller model supports the net operating income view. The traditional approach finds an optimal capital structure that minimizes costs.
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11:00 p.m.
Ryne’s Reel 2 Reel Movie Theater
10:00 a.m.
11:00 p.m.
Garrett’s Dollar Movies
12:00 noon
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Grayson’s Guild Movie Theater
23,000
Ryne’s Reel 2 Reel Movie Theater
25,750
Garrett’s Dollar Movies
25,200
· Grayson's Guild and Ryne's Reel 2 Reel offer a special "Two-for-One Tuesday" where you can purchase two tickets for the price of one.
· Grayson's Guild and Ryne's Reel 2 Reel just purchased the latest Goldby Surround Sound for their movie theaters.
· You recall that your economics instructor at Columbia Southern University had presented you with a table that outlined the four market structure types and their characteristics. After searching through your old notes from Columbia Southern University, you found the table, which is presented below:
Characteristic
Perfect Competition
Monopolistic Competition
Oligopoly
Monopoly
Number of Firms
Vast
Many
Few Dominant Firms
One
Type of Product
Homogeneous
Differentiated
Differentiated
Unique, Limited, No Close Substitute
Size of Firm
Relatively Small
Relatively Small
Average to Large
Large
Market Share
Small
Small
Average/High
Absolute
Barriers to Entry and Exit
None
Low
High
Extreme
Price-Setting Power
None, Price Taker
Low, Price Maker
High, Price Maker
High, Price Maker
Long-Run Economic Profits
None
None
Possible
Possible
Answer the questions on the next page. Your answers must be a minimum of 300 words in length for each question.
Unit VI Assignment
Part 1:
Using the provided table that outlined the various characteristics of each market structure type and the information provided by Manager Tracy from Ruby Red Movie Theater, define the market structure (perfectly competitive, monopolistically competitive, oligopoly, or monopoly) for the movie theater market of this town. Discuss each market structure characteristic as it either relates.
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Information theory
- 1. Information theory Asymmetric information and its effect on market outcomes
- 2. Information asymmetry Information asymmetry deals with the study of decisions in transactions where one party has more or better information than the other. This creates an imbalance of power in transactions which can sometimes cause the transactions to go awry, a kind of market failure in the worst case.
- 3. The market for lemon’s • Akerlof 1970 “The Market for Lemons: Quality, Uncertainty and the Market Mechanism” • Akerlof investigates the effect of asymmetric information on the market equilibrium, based on the example of the used cars market. • Assumptions: – Used cars can either be of a good quality (Plum), or they can be faulty (Lemon). – The seller knows the level of quality of his own car – Potential buyers do not know the level of quality and cannot observe it ⇒ asymmetric information http://sylvain.barde.free.fr/Teaching/Micro%200910/Week_12_Information_theory. ppt
- 4. How does this affect the market outcome? The buyer cannot observe the quality of a particular car. When meeting a car owner, he will only be prepared to offer a price which corresponds to the “average” quality of the cars on the market. He does not have any information which would allow to tailor his offer for a particular car. The owner of a lemon: Has no interest in revealing the information he has about the (low) quality of his car If he does so, he will receive a lower offer (by improving the information available to the buyer) By keeping the information for himself, he can expect a price higher than the value of the car ⇒ market power
- 5. The owner of a plum: Has no interest of selling his car at the average price offered by the buyers (he knows that the car is really worth more than the average offer) Crucial aspect: He cannot improve the information of the buyer by revealing the quality of the car ! This is because the real information (my car is a plum) is “drowned” by the noise made by the owners of lemons !! “That’s what they all say” So his best option is to exit the market. As a result the average quality of cars on the market decreases.
- 6. Another crucial aspect : What happens if the buyers realise that the goods cars are exiting the market ? They reduce their average offer in line with the reduction in average quality Following this reasoning, more owners of plums leave the market In the end, the market disappears ! In theory, a “market for lemons” cannot exist for long
- 7. This is why you don’t see “spontaneous” markets for second-hand cars... The quality of a second-hand car can vary a lot. Buying a car, even second hand, is expensive. Concealing problems with a car is easy and cheap So buying a random car from a complete stranger is a big risk !!
- 8. One of the biggest market for lemons is ?? Online shopping Example: MP3/MP4 fraud Grove yard selling
- 9. Buy Kuhn Tree (6,3) Fresh Fresh Leave (0,0) Buy Seller (6-R,-12) Fresh Leave (-6,0) Old Buy (6,-12) Old Leave (-6,0) http://www.stat.berkeley.edu/~peres/gtlect.pdf
- 10. BUYER BL LL FF 6-R/3,-2 -2,0 SELLER FO 2,2 -2,0 SELLER EXPECTED PAYOFF BUYER EXPECTED PAYOFF =2/3*6+(6-R)/3= 6-R/3 2/3*3+1/3*(-12)=-2 2/3*0 +1/3*(-6)=-2 2/3*0+1/3*0= 0 2/3*6-1/3*6=2 2/3*3-1/3*6=2 0*2/3+1/3*(-6)=-2 2/3*0+1/3*0=0 FF= The seller always says it is fresh whether it is fresh or old. FO= The seller tells the truth i.e. says fresh if it is fresh or says old if it is old.
- 11. THANK YOU