Adverse selection
Definition. Adverse selection is a problem of asymmetric information that arises before a transaction, where the party with less information attracts a disproportionate share of high risk or low quality counterparties because it cannot distinguish them. The better informed party hides relevant characteristics, distorting the market.
A classic case is health insurance, where the least healthy are keenest to buy cover. Left unchecked it can cause the market to shrink or fail entirely.
This term belongs to Asymmetric Information in A Level Economics. Read the full chapter for the diagrams, worked examples and exam technique.
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