Optimal (Non-) Disclosure Defaults

Giuseppe Dari-Mattiacci, Sander Onderstal, Francesco Parisi and Ram Singh
Additional contact information
Francesco Parisi: University of Minnesota
Ram Singh: Department of Economics, Delhi School of Economics

No 346, Working papers from Centre for Development Economics, Delhi School of Economics

Abstract: It is well known that sellers have a general obligation to disclose “negative” information about hidden defects of their products. In contrast, buyers usually do not have a binding obligation to disclose “positive” information about the hidden qualities of the products. The leading explanation for the asymmetric treatment of the two sides - buyers and sellers - is provided by appealing to incentives to invest in relevant information. It is argued that the imposition of disclosure duties on buyers would undermine their incentives to acquire socially useful but costly information ex-ante. This explanation is unsatisfactory. First, the failure to correct asymmetric information problems ex-post would cause, as we will show,an inverse adverse selection problem ex-ante. This would lead to the uninformed sellers’withdrawal from the market. Consequently, resources would not move to (informed)buyers with higher valuations. In this paper, we develop a model to balance the benefits of information acquisition, on the one hand, with the costs of asymmetric information, on the other hand. We use the framework to study the incentives created by different defaultdisclosure and non-disclosure - rules. We examine the optimum default rules by showing that the choice of alternative disclosure rules makes a difference when parties can contract around defaults at a moderate cost. Unlike disclosure rules, non-disclosure default rules yield partially separating equilibria that preserve the buyers’ incentives to acquire information and foster trade opportunities between expert and uninformed sellers. JEL Code: D44, D82, D86, K12

Keywords: asymmetric information; penalty default rules; inverse adverse selection (search for similar items in EconPapers)
Pages: 33 pages
Date: 2024-04
New Economics Papers: this item is included in nep-cta, nep-law, nep-mac, nep-mic and nep-reg
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