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Adverse selection and bounded rationality: an impossibility theorem

Author

Listed:
  • Takeshi Murooka

    (Osaka University)

  • Takuro Yamashita

    (University of Toulouse)

Abstract

We consider an adverse selection environment between an informed seller and an uninformed buyer, where no trade occurs when all buyers are the standard Bayesian-rational type. The buyer may be a “behavioral” type in that he may take actions different from the rational type. We show that, for any incentive-feasible mechanism with any non-trivial trade, the buyer’s ex-ante expected payoff is strictly negative. Our result implies that whenever trade occurs, some behavioral types must incur losses—highlighting a new trade-off between social surplus and buyer protection.

Suggested Citation

  • Takeshi Murooka & Takuro Yamashita, 2023. "Adverse selection and bounded rationality: an impossibility theorem," The Japanese Economic Review, Springer, vol. 74(3), pages 439-444, July.
    • Handle: RePEc:spr:jecrev:v:74:y:2023:i:3:d:10.1007_s42973-022-00119-w
    DOI: 10.1007/s42973-022-00119-w
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    More about this item

    Keywords

    Adverse selection; Bounded rationality; Mechanism design; No-trade theorem; Consumer protection;
    All these keywords.

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
    • D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law
    • D90 - Microeconomics - - Micro-Based Behavioral Economics - - - General
    • D91 - Microeconomics - - Micro-Based Behavioral Economics - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making

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