Asymmetric Information Question?

Question

Bill sees a classified ad offering a used DVD player for $5. On the opposite page, he sees a big color ad from a national electronics chain offering new DVD players for $50. Bill values a DVD player at $75 as long as it works, regardless of whether it is new or used.

Suppose Bill buys the new DVD player, thinking to himself, "someone would only ask $5 for a DVD player if it didn't work well." This reasoning reflects the principle of:

A. Moral hazard

B. Adverse selection

C. Screening

D. Signaling

I think it's B....what does everyone else think?

Answer 1

B. Adverse selection

This problem is akin to Akerlof's lemon market, because Bill here does not know the true state of the used dvd, only the seller knows, so Bill assumes quality heterogeneity and there is, of course, asymmetric information. So the seller has an incentive to pass low-quality goods (lemons) as high quality, precisely the definition of adverse selection.