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In a world of perfect competition, all buyers and sellers have perfect information. In practice, information is often highly imperfect. This can result in decision-making that is socially inefficient.
One aspect of this problem is that the different parties in an economic relationship may have different amounts of information. One party may have more or better information than another. This is known as asymmetric information. For example, the seller may know more about the product than the buyer. When you buy something off eBay, unless the product is brand new, you may well find that it is in a poorer condition than you expected.
This problem of buyer ignorance allows rogue traders to operate. The greater the information asymmetry between sellers and consumers, the greater the scope for deception and fraud, and in these circumstances rogue traders are more likely to thrive. Take the case of builders: by cutting corners and using inferior materials, "cowboy" builders can undercut higher quality builders. Consumers, however, because of information asymmetry, may simply believe that all builders are much the same and may go with the cheapest quote. As a result, reputable builders will feel pressured into cutting their costs, and hence reducing the quality of their work, simply to stay in business.
Moral hazards
Many economic relationships involve contracts. For example, you might sign a contract with a builder to have your roof repaired. But given information asymmetry, the problem of moral hazard is now likely to occur. This is where a person seeks to gain from a situation which is not prevented in the contract. The building company may repair your roof, but unless every small detail is covered in the contract, it can make more profit by using inferior tiles or felting, or by using shoddy workmanship. You may not discover this until much later when the roof starts leaking - long after the builder has "disappeared".
Moral hazard can work the other way round. For example, if a person buys property insurance, they then may take...