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What is Wrong with Moral Hazard and Adverse Selection Problems in the Conventional Economic Theory

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  • Bertrand Lemennicier

    ()

Abstract

The purpose of this paper is to challenge the conventional theory of moral hazard and adverse selection. Moral hazard and adverse selection problems in contemporary economic theory are plagued with four major aws: 1) the alleged asymmetrical information between buyer and seller as a problem in the coordination process of the market; 2) the confusion between different concepts or denitions of probability: case or class probabilities, pure subjective beliefs on the occurrence of an event or relative prices on betting markets; 3) the presupposed inability of actors (sellers and buyers) to solve by themselves the problems they face, 4) the pretense of economists to be able to correct these so-called market failures with compulsory insurance without creating new moral hazard and/or adverse selection problems worse than the ones they want to cure. We center our paper mainly on the internal and theoretical inconsistency of the canonical model developed by Akerlof and Rothschild and Stiglitz's theory and their followers based on additive or non additive expected utility associated with the subjective versus frequency tradition in statistics. As an alternative, we propose to approach these phenomena through the eye glasses of betting markets an securitization of insurance contracts.

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Bibliographic Info

Paper provided by ICER - International Centre for Economic Research in its series ICER Working Papers with number 04-2014.

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Length: 61 pages
Date of creation: Apr 2014
Date of revision:
Handle: RePEc:icr:wpicer:04-2014

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Keywords: Moral hazard; adverse selection; uncertainty; risk; subjective probability; entrepreneurial judgment; asymmetrical information; contract incentives; compulsory insurance; betting market; free market competition as a discovery process;

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