Assumed gains from trading individual car =

Complete Lemon

Absolute Plum

Car 1
Car 2
Car 3
Car 4
Car 5
Car 6
Car 7
Car 8
Car 9
Car 10
Total

Seller Reservation
Price (Private
Information)*
$100
$200
$300
$400
$500
$600
$700
$800
$900
$1,000

$200

Perfect Information (PI)

Buyer WTP Perfect
Gains from Trade
Information (PI)
(PI)
$300
$400
$500
$600
$700
$800
$900
$1,000
$1,100
$1,200

$200
$200
$200
$200
$200
$200
$200
$200
$200
$200
$2,000

* Seller has Private Information about the quality of their car and this is reflected in the R
** Buyer does not know quality of individual car, but does know average quality of cars of
Here, buyer is assumed Risk Neutral and is willing to pay their average valuation for cars

(vary this and see what happens)

Asymmetric Information (AI)**
Voluntarily
Gains from
Buyer WTP
Traded?
Trade
(with AI)
(with AI)
(with AI)
$300
$350
$400
$450
$500
$550
$600
$650
$700
$750

Yes - traded
Yes - traded
Yes - traded
Yes - traded
Yes - traded
No - not traded
No - not traded
No - not traded
No - not traded
No - not traded

y of their car and this is reflected in the Reservation Price.

but does know average quality of cars offered for sale.
ng to pay their average valuation for cars offered for sale.

$200
$200
$200
$200
$200
$0
$0
$0
$0
$0
$1,000

Premium

$150

Change the premium and see what happens to sales and profit

Type of Driver
Careful & Skilled
Careless
Dangerous

Population

Total
Claims

900
80
20

$90,000
$32,000
$60,000

Total

1000

$182,000

Comments:
Population
Total Claims
Expected Annual Claim
Buyer's willingness to pay
Premium
Premium Revenue
Profit

Expected
Annual
Claim

Buyer's
willingness
to pay

Premium

$100
$400
$3,000

$150
$600
$4,500

$150
$150
$150

The population of drivers in each segment

Total claims made by drivers in typical year
Typical annual claim by individual driver
Drivers willingness to pay for insurance (150% by assumption only)
The insurance company must charge same premium to each driver type because they cannot ob
Premium Revenue from each segment
Profit (or loss) derived from each segment

happens to sales and profit

$150

Premium
Revenue

Profit

$135,000
$12,000
$3,000

$45,000
-$20,000
-$57,000

$150,000

-$32,000

um to each driver type because they cannot observe differences in type.

$600

$4,500