Negative Externalities and Equilibrium Existence in Competitive Markets with Adverse Selection
AbstractRothschild and Stiglitz (1976) show that there need not exist a competitive equilibrium in markets with adverse selection. Building on their framework we demonstrate that externalities between agents − an agent's utility upon accepting a contract depends on the average type attracted by the respective principal − can solve the equilibrium existence problem, even when the size of the externalities is arbitrarily small. Our result highlights the degree of control a principal has over the attractiveness of his contracts as an important feature for equilibrium existence, thereby offering a new perspective on existing theories of competition in markets with adverse selection.
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Bibliographic InfoPaper provided by Institute for the Study of Labor (IZA) in its series IZA Discussion Papers with number 4125.
Length: 22 pages
Date of creation: Apr 2009
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Find related papers by JEL classification:
- D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
- D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law
This paper has been announced in the following NEP Reports:
- NEP-ALL-2009-05-02 (All new papers)
- NEP-CTA-2009-05-02 (Contract Theory & Applications)
- NEP-MIC-2009-05-02 (Microeconomics)
- NEP-NET-2009-05-02 (Network Economics)
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