THE MARKET FOR LEMONS.

THE MARKET FOR LEMONS. New cars lose a lot of value after a few months. Kids, this article gives an explanation for why this happens, using Professor Akerlof’s model in his paper, The Market for Lemons. Assume that there are only two kinds of used cars—high quality cars that have been well maintained and “lemons” (we all know what they are). A purchaser of a used car from a previous owner does not know the quality of a used car (and knew a lot less back in 1970). The prospective buyer of a used car knows there is a probability that a car may be a lemon. An owner of a good used car knows that it is good, but the prices he is offered will be discounted because of the risk that it is a lemon. Owners of good used cars may withdraw their cars from the market and some mutually beneficial trades will not place. Note that the seller of a good used car would welcome the opportunity to provide more information—to reduce the asymmetry of information. Carfax comes to mind.