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Dynamic Markets for Lemons: Performance, Liquidity, and Policy Intervention

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Abstract

Even though adverse selection pervades markets for real goods and financial assets, equilibrium in such markets is not well understood. What are the properties of equilibrium in dynamic markets for lemons? What determines the liquidity of a good? Which market structures perform better, decentralized ones, in which trade is bilateral and prices are negotiated, or centralized ones, in which trade is multilateral and agents are price-takers? Is there a role for government intervention? We show that when the horizon is finite and frictions are small, decentralized markets are more liquid and perform better than centralized markets. Moreover, the surplus realized is above the static competitive surplus, and decreases as the horizon grows larger, approaching the static competitive surplus as the horizon becomes infinite even if frictions are non-negligible. Subsidies on low quality or taxes on high quality raise surplus.

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Paper provided by Economics Discipline Group, UTS Business School, University of Technology, Sydney in its series Working Paper Series with number 5.

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Length: 54
Date of creation: 01 Mar 2013
Date of revision:
Handle: RePEc:uts:ecowps:5

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Keywords: adverse selection; lemons markets; decentralised markets; equilibrium dynamics;

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  1. Arial Rubinstein & Asher Wolinsky, 1985. "Equilibrium in a Market with Sequential Bargaining," Levine's Working Paper Archive 623, David K. Levine.
  2. Diego Moreno & John Wooders, 2007. "Decentralized trade mitigates the lemons problem," Economics Working Papers we071204, Universidad Carlos III, Departamento de Economía.
  3. Akerlof, George A, 1970. "The Market for 'Lemons': Quality Uncertainty and the Market Mechanism," The Quarterly Journal of Economics, MIT Press, vol. 84(3), pages 488-500, August.
  4. Serrano, Roberto, 2002. "Decentralized information and the Walrasian outcome: a pairwise meetings market with private values," Journal of Mathematical Economics, Elsevier, vol. 38(1-2), pages 65-89, September.
  5. Braz Camargo & Benjamin Lester, 2011. "Trading dynamics in decentralized markets with adverse selection," Working Papers 11-36, Federal Reserve Bank of Philadelphia.
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  7. Douglas Gale, 1994. "Equilibria and Pareto Optima of Markets with Adverse Selection," Papers 0046, Boston University - Industry Studies Programme.
  8. Moreno, Diego & Wooders, John, 2002. "Prices, Delay, and the Dynamics of Trade," Journal of Economic Theory, Elsevier, vol. 104(2), pages 304-339, June.
  9. Maarten C. W. Janssen & Santanu Roy, 2002. "Dynamic Trading in a Durable Good Market with Asymmetric Information," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 43(1), pages 257-282, February.
  10. Ennio Bilancini & Leonardo boncinelli, 2011. "Dynamic Adverse Selection and the Size of the Informed Side of the Market," Department of Economics 0650, University of Modena and Reggio E., Faculty of Economics "Marco Biagi".
  11. Max Blouin, 2001. "Equilibrium in a Decentralized Market with Adverse Selection," Cahiers de recherche CREFE / CREFE Working Papers 128, CREFE, Université du Québec à Montréal, revised Mar 2001.
  12. Blouin, Max R & Serrano, Roberto, 2001. "A Decentralized Market with Common Values Uncertainty: Non-Steady States," Review of Economic Studies, Wiley Blackwell, vol. 68(2), pages 323-46, April.
  13. Asher Wolinsky & Stephan Lauermann, 2009. "Search with Adverse Selection," 2009 Meeting Papers 827, Society for Economic Dynamics.
  14. Stephen Morris & Hyun Song Shin, 2012. "Contagious Adverse Selection," American Economic Journal: Macroeconomics, American Economic Association, vol. 4(1), pages 1-21, January.
  15. Gale, Douglas, 1987. "Limit theorems for markets with sequential bargaining," Journal of Economic Theory, Elsevier, vol. 43(1), pages 20-54, October.
  16. Binmore, Ken G & Herrero, M J, 1988. "Matching and Bargaining in Dynamic Markets," Review of Economic Studies, Wiley Blackwell, vol. 55(1), pages 17-31, January.
  17. Martin J. Osborne & Ariel Rubinstein, 2005. "Bargaining and Markets," Levine's Bibliography 666156000000000515, UCLA Department of Economics.
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Cited by:
  1. Dino Gerardi & Lucas Maestri, 2013. "Bargaining over a Divisible Good in the Market for Lemons," Carlo Alberto Notebooks 312, Collegio Carlo Alberto.

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