Lemons: Quality Uncertainty and the Market Mechanism by George A. Akerlof

Introduction

George Akerlof has elegantly illustrated how asymmetric information about things impacts their marketplaces. The paper’s title is intriguing: ’The Market for “Lemons”: Quality Uncertainty and the Market Mechanism,’ and it deals with the trust component that exists between sellers and purchasers. Every market is volatile. No matter how solid a market’s condition is, its survival is dependent on current information. According to Akerlof, used cars follow new cars on the market, lowering their market value. However, there are other aspects that are associated with the changing market of the used as well as new cars. New cars owners or companies have to operate more cleverly with motivation information for the buyers. The new car owners or dealers or companies would start the sale of their cars if they operate with the rule of buyer motivation policies along with symmetric information.

Akerlof’s Argument

Akerlof’s argument works through Gresham’s law that asserts that bad money drives out good money through the process of money exchange rates. The lemons, in the similar way, would find an increasing selling market and the plums would be able to make any deal. The author is very confident by putting forward the concept of ‘lemon market’. But, I think plum owners can also create a good market by conveying symmetric information regarding their extra benefits. However, Alkerlof represents his vision through asymmetric information and adverse selection. Asymetric information is entitled with having different types of information by the seller and the buyer about the vehicle, and adverse selection is associated with the buyers’ selection of buying a lemon, thinking that he is buying a plum. This market mechanism, painted effectively by Alkerlof, gives a wider insight of every type of market.

Market Inference

The logical inference from the above discussion is that only the lemons will be sold. Markets full of inferior goods destroy the selling value and the market for superior goods due to imperfect information. Plum owners need innovative ways of gesturing the good quality of their cars. Thus inferior and superior goods determine the philosophy of the market by cultivating a trust factor within the buyers by the seller. It is evident from the most of the content of the article that markets depend on the goods: it does not matter whether the goods are bad or superior. However, the uncertainty in the quality aspect of the goods is what keeps the market running especially when more inferior quality products are present in the market.

Importance of Trust in Markets

The article establishes the importance of trust factor within the domains of business and economy which facilitates the smooth functioning of the markets. Uncertainty in the markets is the direct concerns that do exist because of the manipulated trust factor by inferior goods. As elaborated by the Gresham’s law, guarantee factor also affects the market of the goods along with some external benefits including product replacement etc. Without guarantees, businesses and the markets will be at the verge of loss and mistrust which will in turn affect the market etiquettes of the goods being sold and bought. Distinction of good product from bad is a very difficult process. It involves the associated market risks that are inherent in the world of business. Such market attributes may explain additional market places and business institutions and can operate as imperative facets of uncertainty.

Credit Markets in Underdeveloped Countries

The article also talks about the credit markets of the underdeveloped countries especially India. Indian villages have definite traditional way moneylending policies as explained by the Alkerlof. The moneylenders charge huge amount of interest on the money they offer to the clients. The interest could be in the form of land, money, jewellery etc. The author has implemented the lemon rule on the credit system of Indian villages as the village level money lender gets more clients as compared to the central banks of the country. This system was responsible for landlessness of many people and that is why ‘cooperative movement’ was started to check its increase.

Insurance and the Lemon Rule

Alkerlof has beautifully described the insurance in context to the ‘lemon rule’. It is quite evident that the price level is proportional to the deteriorating health of the applicants. Such condition will reduce the market for insurance companies, and there will be very low insurance sales. Similarly, the author has very well played with the concepts of honest and dishonest market. For honest dealings dishonesty has to be kept out of the market and vice versa. The ‘lemon principle’ goes well with the conceptions of the virtues of honestly and dishonestly selling of goods.

Conclusion

The author tries to illustrate the changing nature of market mechanism through uncertainty of the quality of the goods. The lemon principle is well described in context to the vehicle markets to get the idea of uncertainty of the market. Gresham’s law is styled in context to the money market where bad money and good money determines the money market in general. Similarly, the used cars cover the most of the vehicle market and keep very low chances for the new vehicles. The cost of dishonesty is associated with the market philosophy and is well illustrated by the author.

Works cited

Akerlof, George A. The Market for “Lemons”: Quality Uncertainty and the Market Mechanism. The Quarterly Journal of Economics, Vol. 84, No. 3. (Aug., 1970), pp. 488-500.