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.
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Notes
A generalization to the correlated case is also possible, as long as we strengthen the seller’s incentive compatibility and individual rationality to their ex-post version. This strengthening is to avoid a Cremer-McLean type mechanism (Crémer & McLean, 1988), which extracts the seller’s information rent by asking the seller to bet on the buyer’s type realization.
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Acknowledgements
This paper was prepared for the Invited Lecture at the Spring Meeting of the Japanese Economic Association at Yokohama National University, May 28 and 29, 2022. We are grateful to Nobuyuki Hanaki, Paul Heidhues, Yoshiaki Ogura, an anonymous referee, and conference and seminar audiences for helpful comments. Takeshi acknowledges financial support from JSPS KAKENHI (JP18H03640, JP19K01568, JP20K13451, JP22K13365). Takuro acknowledges funding from the European Research Council (ERC) under the European Union’s Horizon 2020 research and innovation program (Grant agreement no 714693), and ANR under grant ANR-17-EURE-0010 (Investissements d’Avenir program). All remaining errors are our own.
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Murooka, T., Yamashita, T. Adverse selection and bounded rationality: an impossibility theorem. JER 74, 439–444 (2023). https://doi.org/10.1007/s42973-022-00119-w
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DOI: https://doi.org/10.1007/s42973-022-00119-w