Akerlof's used-car market: how hidden quality can unravel a market entirely.
Warming up the engine…
Market failure from hidden characteristics: when quality is private information, prices attract the worst types. Akerlof's market for lemons.
Buyers offer E[quality] price → sellers above that price exit → average quality falls → repeat
If buyers will only pay the average-quality price, owners of good cars keep them, the average falls, the price falls further, and the market can unravel to nothing. Insurance faces the mirror image: the sickest are keenest to buy.
The trigger is information asymmetry BEFORE the transaction; hidden behavior AFTER it is moral hazard.
Now prove you have it
Move the curve to where you think it lands, and get told exactly which part you got right.
Real-world scenarios on this model
Equilibrium at q 33, P 40.
Equilibrium: q* = 33.3, P* = 40.0
Current equations
Buyers cannot tell good cars from lemons, so they offer a price for the average car. But at an average price, owners of the best cars keep them. Quality on the market falls, buyers offer less, more good cars leave. The crossing shows where the unraveling stops, and it can go all the way to zero.