Uninformed Party Research Articles

Information Revelation and Certification Intermediaries

I discuss the role of intermediaries that search out the information of privately informed parties and then choose what to reveal to uninformed parties. The focus is on the strategic manipulation of information by these certification intermediaries. I show that in a class of environments the optimal choice for a monopoly intermediary is to reveal only whether quality is above some minimal standard. Despite this minimal information transmission, the intermediary can capture a large share of the surplus. I also show that competition among the intermediaries can lead to full information revelation.

On the Value of a Checkup: Adverse Selection, Moral Hazard and the Value of Information

INTRODUCTION The view that insurance deters people from taking medical checkups and diagnostic tests has had widespread currency during the debate over health care reform. If a test revealed favorable results (e.g., HIV negative or the absence of the genetic defect causing Huntington's disease), the insurer would probably lower the premium, but unfavorable test results would result in a prohibitive premium or uninsurability. This classification lottery clearly is unattractive to risk averse consumers and might dissuade them from taking the test despite any medical or public health benefits. This view has been aired in the scientific and popular press and has entered policy analysis in Washington (Tabarrok, 1994).(1) We will show that markets will provide optimal incentives for consumers to take diagnostic tests if there are initially informed and uninformed consumers and an option for treatment, and if information status and the test results are confidential. We will show that the social value of information revealed by diagnostic tests is also positive. Consumers must anticipate how their private knowledge will affect the choices they exercise from policy menus offered by insurers in a competitive market. We will show that the information revealed by the test has positive private value, thus encouraging consumers to be tested. This positive value arises jointly from the ability of consumers to hide information status and the value of the contingent option for treatment. Thus, competitive markets will encourage consumers to make socially optimal choices. Formally, our study addresses adverse selection, moral hazard and the value of information. We will show that the hidden nature of information status adds an important second dimension to the standard Rothchild-Stiglitz model. Self selection screening models traditionally start with an assumption that one agent is uninformed of the risk type of the others, and the uninformed party offers a menu designed to induce sorting. We start with both informed and uninformed consumers but the latter can choose whether to acquire information. Uninformed consumers must decide whether to take a test which will reveal their propensity for death or ailment. Insurers who are uninformed as to who takes the test or the results, offer a menu of life (or health) insurance policies(2) designed to induce self selection according to information status and test results. Moreover, insurers must anticipate that those taking the test may receive options for treatment which can be exercised after insurance is chosen, thus introducing an element of moral hazard. In choosing whether to take the test, consumers anticipate how information revealed will affect their choice from the insurer's menu and how they will exercise the treatment option. Thus, we model a game in which insurers cannot tell whether a consumer possesses hidden knowledge, and some consumers are initially uninformed but may choose to acquire hidden knowledge, thereby changing the nature of the informational asymmetry from one in which the uninformed cannot be contracted with separately ex ante to one like the Rothchild-Stiglitz model wherein all consumers possess hidden knowledge. We will show that taking the test is the dominant strategy for the uninformed for the preliminary information game and that the Nash equilibrium requires that all consumers become informed. This article is related to a previous literature on the social value of information, insurance classification, adverse selection, medical decision making, etc. We will mention only some of the closer fits. The social value of information has been addressed by Hirshleifer (1971) and Arrow (1978) who, extending the work of Dreze (1960), showed that improved public information may make everyone worse off (by eliminating opportunities to reallocate risk through trade). Milgrom and Stokey (1982) and Marshall (1974) show that if parties negotiate ex ante efficient contracts, subsequently generated information does not expand allocative opportunities and has no social value. …

Bargaining over a Menu of Wage Contracts

We investigate an infinite horizon bargaining problem in which a firm and a worker bargain over two dimensions, quality and wage. The worker has private information about his type. Only the uninformed firm makes an offer and it can offer a menu of quality-wage contracts instead of single one. We show that for all discount factors, the unique sequential equilibrium outcome is separating without delay; the firm separates the types of worker with a menu of contracts in the first period. Our result shows that in multi-dimensional bargaining, the Coase Conjecture holds in the sense that the game ends in the first period. But it fails in the sense that the uninformed party can preserve the entire bargaining power.

Accuracy in the Assessment of Damages

Assessment of damages is a principle issue in litigation and, in light of this, we consider the social justification for, and the private benefits of, accurate measurement of harm. Greater accuracy induces parties to exercise levels of precaution that better reflect the magnitude of the harm they are likely to generate, and related, it stimulates uninformed parties to learn about risks before acting. However, accuracy in the assessment of harm cannot influence the behavior of parties -- and is therefore of no social value -- to the degree that parties lack knowledge of the harm they might cause when deciding on their precautions. In addition, regardless of the social value of accuracy, litigants generally gain by devoting resources toward proof of damages, leading often to socially excessive private incentives to establish damages.

WAGE BARGAINING, UNCERTAINTY AND THE BEHAVIOUR OF EXCESS RETURNS*

Bargaining theory explains delay in reaching wage agreements as the result of informational asymmetries. The conclusion of negotiations lessens these asymmetries, thus reducing the uncertainty of the uninformed parties. This paper analyzes whether this reduction in uncertainty is reflected in a reduction in the variance of the firm's excess returns. Some writers have treated this as a testable prediction of bargaining theories based on private information. The paper shows that it is the source of the variance that matters, not the informational asymmetry. If the firm's revenue is subject to publicly observable shocks, the proposition is generally false. Copyright 1994 by Blackwell Publishers Ltd and The Victoria University of Manchester

News Management and the Value of Firms

The literature on asymmetric information has been concerned mainly with the problem of the informed party lying to the uninformed parties. However, in many cases, the informed party will stop short of lying but will seek to gain from private information by managing the disclosure of news. This article examines the pricing of a firm when there is such manipulation of news. I model this situation as a variant of the persuasion game of Milgrom and Roberts (1986) in which I can parameterize the notion of the degree of credence placed by the market on the disclosures of the informed party . An empirical hypothesis thrown up by the theory is that for otherwise identical firms, a low price/earnings ratio will be associated with a greater degree of positive skewness of the disclosure strategy.

On Auditors and the Courts in an Adverse Selection Setting

Most models of auditing in the accounting literature may be classified as agency models or signaling models.' The emphasis in an agency model is on a single firm; the auditor is typically modeled as a utility-maximizing player who is hired by a firm's owner to better control a manager as well as to improve their risk-sharing arrangement. A signaling model, on the other hand, includes a larger set of players, and it focuses on the interrelationships among the various players in a market setting. The auditor is usually modeled as a mechanistic monitor; the output (report) of an auditor, and/or the act of hiring an auditor, is used by an informed party (e.g., an owner) to signal its private information (e.g., the firm's risk characteristics) to an uninformed party (e.g., an investor). In this paper we incorporate a utility-maximizing auditor, as found in agency models, into a simple signaling setting composed of firms of unobservable risk types requiring loans, lenders of capital to the firms, auditors, and a court system. We consider how litigation against auditors affects the prevailing equilibria as well as the resulting welfare of the different participants when the endogenously determined interest rates

A direct mechanism characterization of sequential bargaining with one-sided incomplete information

We characterize the sequential equilibria of a class of infinite-horizon bargaining games with one-sided incomplete information. When the seller (the uninformed party) makes all the offers, we prove a folk theorem: every incentive compatible, individually rational, direct bargaining mechanism is implementable by sequential equilibria. Introducing buyer counteroffers eliminates outcomes which are unfavorable to that party. As the proportion of buyer offers increases, the set of implementable mechanisms shrinks continuously; when the proportion reaches one, only the single outcome most favorable to the buyer remains. Thus, depending on the offer structure, sequentiality may (or may not) impose restrictions beyond static incentive compatibility.

Simultaneous Signalling to the Capital and Product Markets

In this article we analyze an informed firm's choice of financial structure when the financing contract is observed not only by the capital market but also by a second uninformed party, such as a competing firm. The informed firm's gross profit is endogenous, because the second party's action depends on the transaction it observes between the informed firm and the capital market. The main result is that the reasonable capital-market equilibria maximize the ex ante expectation of the informed firm's endogenous gross profits. In distinct contrast to earlier work, which focuses on separating equilibria, in our model it is often the case that all the reasonable equilibria are pooling.