A Note on Information Asymmetry

by Don Boudreaux on November 27, 2013

in Complexity & Emergence, Economics, Hubris and humility, Man of System, Nanny State, Other People's Money

AngryStu e-mails me – responding to today’s Quotation of the Day – to call me a “simpleton.”  He justifies his accusation by informing me that I have “not learned economics after [my] introductory class.”  He thinks that I naively assume that markets operate perfectly and in just the ways they are described as working in standard principles-of-microeconomics textbooks.  (To this accusation I can say only that AngryStu hasn’t read very much of my work.  Regardless of the merits or demerits of the Austrian approach to economics, those of us who work in the Austrian tradition are emphatically prone against the belief that markets work as they are described as working in neoclassical introductory economics texts.)

More from AngryStu:

You [Boudreaux] sophomoronically* ignore market imperfections like moral hazard, information asymmetries, strategic behaviors, asymmetric information [sic], market power and first mover advantages. The real world is more complicated than a simpleton like you realizes….  You should be sued for the professional malpractice of economics.

I’ve no time now to deal with all of AngryStu’s accusations, other than to summarily protest that I never assume that reality is not full of moral hazard, information asymmetries, and the like.  Unlike the many allegedly ‘realistic’ scholars who are impressed that introductory textbooks don’t describe reality, I (think I) understand the rich array of ways that institutions deal with these problems.  Brand names, department stores, contingent contracting, tort law, insurance, insurance co-payments, clubs, homeowners’ associations, money itself – the list goes on and on of institutions and institutional devices that emerge in response to people’s understanding that reality is complex.

Indeed, those economists who are most prone to ignore reality – those most given to assuming that reality is far more simple than it really is – are those economists who, once they realize (correctly) that introductory neoclassical models of perfectly operating markets do not adequately describe reality, leap to the conclusion that government is not only possible, but the only (or at least the best) possible, ‘solution’ to these imperfections.

These economists mistake their abilities to recognize weaknesses in (some) theories – along with their abilities to formulate other theories of what might happen as a result of ‘market imperfections’ in a world free of institutions – for actual knowledge of reality.  But in fact these economists remain blind to the rich institutions that emerge in response to the many real-world ‘market imperfections.’  (These economists haven’t read Ronald Coase carefully.  Nor have they read carefully the works of other scholars such as Hayek, Harold Demsetz, Lin Ostrom, Oliver Williamson, Doug North, Deirdre McCloskey, Joel Mokyr, Gary Libecap, Henry Manne, Louis DeAlessi, Fred McChesney, Mancur Olson, Jim Buchanan, George Selgin, my colleagues Larry White and Dan Klein and Tom Hazlett, Yoram Barzel, George Bittlingmayer, David Beito, Stanley Lebergott….  This list is long.)

I can’t resist, though, before closing this post to make a point that I’m sure I’ve made earlier, but believe deserves making again – namely: It’s especially bizarre to cite asymmetric information as a justification for government regulation.  I as a buyer might well have far less information about a transaction than does the seller whom I choose (!) to buy from, and as a result I might well get consistently screwed by being on the wrong side of a series of transactions marked by asymmetric information.  But what reason is there to presume that the politicians and other government officials who are thereby given power to oversee, direct, or restrict the range of my market transactions are not cursed by an even worse species of asymmetric information?  Sure, these officials might be able to learn more than I, acting independently, can learn of what the seller knows.  But there’s no way that those officials can know more about me and my desires, preferences, and risk-tolerances than I know.

Perhaps the greatest information asymmetry of all is the stark difference between the enormously deep, rich, and personal knowledge that each individual has of himself or herself and the necessarily sparse and inadequate knowledge that government officials have of each of the individuals over whom they are empowered to rule.  And so if information asymmetries justify caution in private market transactions, surely they justify at least as much caution in political transactions.

It is, in other words, mistaken and unscientific to assume away in political transactions and activities the information asymmetries that, when these are (believed to be) spied in private transactions, justify suspicion of the merits of those private transactions.  If information asymmetries justify the claim that informationally deprived people (consumers and workers) act harmfully in private settings, then information asymmetries justify the claim that informationally deprived people (politicians) act harmfully in political settings.  The difference, of course, is that in private settings the parties harmed by acting on too little information are the particular parties who act on this inadequate information.  In political settings, the parties harmed when information asymmetries intrude upon ‘transactions’ are not the informationally deprived parties themselves (that is, not the government officials) but, rather, the very people whose well-being is supposed to be improved by turning decision-making over their well-being to informationally deprived government officials.

….

* I do applaud AngryStu for this delicious neologism!

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