Final Flashcards
In general terms, what is adverse selection?
Situation where only constant-price contracts are offered and the informed party decides to participate upon observation. Job market/unraveling.
In general terms, what is cheap talk?
Costless messages or actions are sent from the informed party to the uninformed.
In general terms, what is screening/NLP?
The uninformed side offers a menu to the informed party. Used in airline prices.
In general terms, what is mechanism design?
Similar to screening, but more complicated forms of moving the informed party to a particular outcome. Often utilize auctions or public good valuations.
In cheap talk, what does a lower value for “b” mean?
Preferences between sender/receiver are more closely aligned
What is each party trying to accomplish in cheap talk?
Minimize their loss function:
- Sender = L(l y - b - θ l)
- Receiver = L(l y - θ l)
What are the results of the cheap talk model?
- No PBE where sender gives message m = θ
- The difference in length between two adjacent intervals is 4b.
- There is always a babbling equilibrium where one interval/partition exists
- The number of partitions is decreasing in b.
What is the most efficient equilibrium in a cheap talk model?
Where the number of intervals is maximized
nx+2bn(n-1) = 1
How can the relationship between “b” and “n” be explained?
b < 1/2n(n-1)
How do you construct partitions/intervals in the cheap talk model?
- Set nx+2bn(n-1) = 1
- Solve for “n”, plug in to solve for “x”
- Use to solve for intervals
How do you calculate the expected utility for the receiver/sender in cheap talk?
- Find the area under the curve by taking the integral of the partitions
- If loss function is absolute value, have to split babbling into parts to keep values positive
* *For instance, ∫(1/2 - x)dx + ∫(x - 1/2)dx - Sum of welfare should be negative since there is loss
How do you find the Pareto dominant equilibrium in cheap talk?
- Maximize the number of partitions given “x”
- Plug back in and solve for “x”
- Use to determine interval lengths
How do you find the values of “b” where the only equilibrium is a babbling one?
- Plug n = 2 into nx+2bn(n-1) > 1
- Solve for “b”
- Plug in “x” almost equal to 0
If one or neither party can send a signal and there is a uniform offer presented to all market participants, which model are you dealing with?
Adverse selection
What is the Pareto efficient allocation in adverse selection?
The full information case