Overconfidence in the Markets for Lemons

Fabian Herweg () and Daniel Müller

Discussion Paper Series of SFB/TR 15 Governance and the Efficiency of Economic Systems from Free University of Berlin, Humboldt University of Berlin, University of Bonn, University of Mannheim, University of Munich

Abstract: We extend Akerlof (1970)’s “Market for Lemons†by assuming that some buyers are overconfident. Buyers in our model receive a noisy signal about the quality of the good that is on display for sale. Overconfident buyers do not update according to Bayes’ rule but take the noisy signal at face value. We show that the presence of overconfident buyers can stabilize the market outcome by preventing total adverse selection. This stabilization, however, comes at a cost: rational buyers are crowded out of the market.

Keywords: Adverse Selection; Market for Lemons; Overconfidence (search for similar items in EconPapers)
JEL-codes: D82 L15 (search for similar items in EconPapers)
Date: 2013-12-17
New Economics Papers: this item is included in nep-com, nep-cta, nep-ind and nep-mic
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Related works:
Journal Article: Overconfidence in the Markets for Lemons (2016)
Working Paper: Overconfidence in the Market for Lemons (2011)
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Persistent link: https://EconPapers.repec.org/RePEc:trf:wpaper:452

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