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Unit 2 Microeconomic (market failures)HL only - Coggle Diagram
Unit 2 Microeconomic (market failures)HL only
Free market
The free market assumes that consumers and producers are rational, profit/utility-maximizing and that both parties have perfect information.
Asymmetric information
Where one party in an economic transaction has more or better information than another. Information is not symmetrical (the same for each side)
Adverse selection
A situation where one participant has more information than another before the transaction occurs.
Moral hazard
A situation where one participant takes on more risk because they understand they will not pay the consequences of that risk.
Unlike adverse Selection, the information only changes after the transaction has occured.
Remember: Adverse Selection takes place before the transaction while Moral Hazard takes place after.
Government responses
Legislation
The government may try to ensure all parties have adequate access to information by legislation
Regulation
The government may try enforce monitoring of industries to reduce the impact of the market failure.
Private responses
Pros of signalling
Increases amounts of information to all participants
Improves efficiency
Cost-effective
Cons of signalling
False information
Time consuming
Screening
When participants who lack information force others to reveal information
Screening is always done by the participant with less information