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How imperfect information can affect equilibrium price and quantity

The presence of imperfect information can discourage both buyers and sellers from participating in the market. Buyers may become reluctant to participate because they cannot determine the quality of a product. Sellers of high-quality or medium-quality goods may be reluctant to participate, because it is difficult to demonstrate the quality of their goods to buyers—and since buyers cannot determine which goods have higher quality, they are likely to be unwilling to pay a higher price for such goods.

A market with few buyers and few sellers is sometimes referred to as a thin market . By contrast, a market with many buyers and sellers is called a thick market . When imperfect information is severe and buyers and sellers are discouraged from participating, markets may become extremely thin as a relatively small number of buyer and sellers attempt to communicate enough information that they can agree on a price.

When price mixes with imperfect information about quality

A buyer confronted with imperfect information will often believe that the price being charged reveals something about the quality of the product. For example, a buyer may assume that a gemstone or a used car that costs more must be of higher quality, even though the buyer is not an expert on gemstones. Think of the expensive restaurant where the food must be good because it is so expensive or the shop where the clothes must be stylish because they cost so much, or the gallery where the art must be great, because it costs so much. If you are hiring a lawyer, you might assume that a lawyer who charges $400 per hour must be better than a lawyer who charges $150 per hour. In these cases, price can act as a signal of quality.

When buyers use the market price to draw inferences about the quality of products, then markets may have trouble reaching an equilibrium price    and quantity. Imagine a situation where a used car dealer has a lot full of used cars that do not seem to be selling, and so the dealer decides to cut the prices of the cars to sell a greater quantity. In a market with imperfect information, many buyers may assume that the lower price implies low-quality cars. As a result, the lower price may not attract more customers. Conversely, a dealer who raises prices may find that customers assume that the higher price means that cars are of higher quality; as a result of raising prices, the dealer might sell more cars. (Whether or not consumers always behave rationally, as an economist would see it, is the subject of the following Clear It Up feature.)

The idea that higher prices might cause a greater quantity demanded and that lower prices might cause a lower quantity demanded runs exactly counter to the basic model of demand and supply (as outlined in the Demand and Supply chapter). These contrary effects, however, will reach natural limits. At some point, if the price is high enough, the quantity demanded will decline. Conversely, when the price declines far enough, buyers will increasingly find value even if the quality is lower. In addition, information eventually becomes more widely known. An overpriced restaurant that charges more than the quality of its food is worth to many buyers will not last forever.

Questions & Answers

what is economic
Vida Reply
Economic is a seines which study the human behavior as ends and scarce means which have alternative uses
Debrah
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Emmanuel Reply
what is demand
Joseph Reply
Demand simply refers to the amount of goods and services which the consumer is willing and able to purchase at each price
Owusu
what is mean by unitary elastic demand
Bangniyel Reply
demand is said to be unitary elastic when the percentage change in the demand is equal to the percentage change in the price
George
what is the principle of equi-marginal utility
Reliance Reply
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Anita Reply
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Anita
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Anita Reply
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Anita
economics is a science which studies human behaviour as a relationship between ends and scarce means which have alternative uses
Boso
I don't know.
natchanan
u don't
Ssali
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Raewyn
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Liambee
ya nyc
Ssali
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Anita
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Anita
what is production
Anita
production is creation of goods and services
George
what is macroeconomics and microeconomics
Anita
macroeconomics deals with larger economic units such as GDP,GNP,employment while microeconomics deals with smaller economic units such firm and household
George
Thanks
Anita
Explain the ff Scarcity Ends Demand Supply Choice Scale of preference
Anita
macroeconomics deals with larger economic units such as GDP,GNP,employment while microeconomics deals with smaller economic units such firm and household
George
Gross Domestic product...it represent the total value of the products produced within the country including foreign industries
George Reply
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Anita
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Odia Reply
list of climate that affect demands
Odia
What is two major forms of international trade?
Musa Reply
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Abdul Reply
De ans,Economics is the study of women behavior as a relationship between end and scared mean which have alternative uses.
Anita
What is Inflation
Abdul Reply
More money = more consumers, more consumers = lessen the product, less product = high price, high price = inflation
TuroN
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Odia
why price and quantity increase
Otuu Reply
condition under which price and quantity will be increased at the same time
Otuu
factors that hinders mobility of labour
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what is scarcity
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Source:  OpenStax, Principles of economics. OpenStax CNX. Sep 19, 2014 Download for free at http://legacy.cnx.org/content/col11613/1.11
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