ARTICLE

10.1177/0891242404265139
ECONOMIC
Scorsone,
Weiler
DEVELOPMENT
/ NEW MARKETS
QUARTERLY / August 2004

New Markets as Informational Asymmetries

Eric Scorsone
University of Kentucky
Stephan Weiler
Federal Reserve Bank
The neglected advantages of new markets in marginalized rural and inner-city
areas have been touted in the policy arena since the early 1990s. Although much of the
motivation has been based on equity, there are potentially strong efficiency arguments
for such renewed attention. This article proposes a unique combination of classic and
more recent work on informational market failures to understand new markets as
examples of informational asymmetries, which can provide the rationale for both private and public support of new market ventures. Furthermore, this perspective can
help explain persistent intraregional differences in economic development prospects
due to path dependencies inherent in varying informational settings.
Keywords: information asymmetry; new markets; economic development; market
failure
Despite the longest period of postwar economic growth over the 1990s, pockets of unemployment,
poverty, and stagnation continue to exist in the United States. Rural areas and inner cities remained
at the periphery of the economic boom. Despite rapidly rising factor prices, particularly land and
labor, in established, thriving markets, relatively little attention has been oriented toward those
areas with considerable slack resources (U. S. Department of Housing and Urban Development,
1999). This lack of attention, even during a period of unprecedented growth, suggests that the prospects of such regional economies will continue to be bleak.
In an attempt to highlight the potential opportunities in these economically peripheral regions,
the Clinton administration signed into law a series of programs, including the Empowerment Zone
in 1993 and New Markets and Community Renewal in 2000. Together, these policies constituted
the New Markets Initiative. These new markets were areas that had been left behind by the economic growth of the 1990s but that still featured considerable private sector potential. The term
new market refers to an older set of ideas about developing countries as emerging markets
rather than simply long-term aid recipients. In American marginalized areas as well as developing
countries, providing a new moniker was itself designed to reduce the stigma and perception of lack
of opportunity.
The so-called capital gap was the first major barrier identified as a problem in the new market
inner cities and rural areas (U.S. Department of Housing and Urban Development, 1999). Programs were designed to provide capital access to businesses starting and operating in these
neglected areas. Tax incentives and other tools were used to increase investment by private companies and individuals in these areas. However, the capital gap was only part of the problem. In fact,
an information gap on new market prospects was quickly recognized as an equally significant

Eric Scorsone is an assistant

professor and extension
specialist in the Agricultural
Economics Department at
the University of Kentucky.
His current research and
extension focus on the area of
rural economic development
and the role of information in
entrepreneurship and
business investment.
Stephan Weiler is an assistant
vice president and economist
at the Federal Reserves
Center for the Study of Rural
America. His broad research
field is regional economic
development, with particular
interests in marginalized
rural and inner-city areas,
combining applied theory
and empirical analyses in
topics such as industrial
restructuring, local labor
markets, information and
entrepreneurship, housing,
and the environment.

. . . Empowerment
Zone . . . and New
Markets and Community
Renewal legislation.
. . . constituted the New
Markets Initiative. These
new markets were areas
that had been left behind
by the economic growth
of the 1990s but that still
featured considerable
private sector potential.

ECONOMIC DEVELOPMENT QUARTERLY, Vol. 18 No. 3, August 2004 303-313

DOI: 10.1177/0891242404265139
2004 Sage Publications
303

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ECONOMIC DEVELOPMENT QUARTERLY / August 2004

challenge; even the most favorable capital programs could not generate new investment in markets
with severely limited information on project prospects.
This article provides an economic foundation to better understand the importance and implications of the information gap in new inner-city and rural markets. Imperfect information is, in general, likely to lead to nonwelfare-maximizing outcomes, and imperfect information is especially
likely in new market settings. Stagnating areas tend to have considerably less turnover in their business and factor markets. The result can be an especially thin number of transactions and a high perceived variance for any given project, even a likely profitable one. Principals may have good
information on the prospects of their project. However, if crucial external perceptions are shaped
by high aggregate variance because of limited transactions, good projects in thin markets will tend
to be overlooked.
This situation leads to a distinctly geographic case of adverse selection as an informational
asymmetry, which can become both specific and endemic to a region. Neglect breeds neglect, and a
path-dependent cycle of economic stagnation can ensue. Private capital does not have the incentive
to break this cycle alone, leading to a significant market failure that can reduce both market equity
and efficiency. Bridging the information gap either by increasing transactions or providing necessary information can thus be a first best solution to the market failure, simultaneously promoting
efficiency and equity.
This article combines recent theoretical work to propose a unique framework to understand new
markets in terms of their handicaps and as sources of private profit and social welfare enhancements. We first build the case for informational asymmetries as an integral characteristic of the
focal new markets. Given this situation, we then survey the implications of ignoring such asymmetries, creating uniquely intraregional path dependencies in the economic development prospects of
both urban and rural areas. We conclude with thoughts on the need to provide information in thin
markets.

This article represents

a first step in
connecting . . . businessand policy-oriented
research strands to
the microeconomic
foundations of
informational
asymmetries and
market failures.

INFORMATIONAL ASYMMETRIES
IN NEW MARKET AREAS
The new markets literature is principally nonacademic to this point and refers repeatedly to
information gaps (e.g., Boston Consulting Group and the Initiative for a Competitive Inner City,
1998; Porter, 1997; U. S. Department of Housing and Urban Development, 1999). This article represents a first step in connecting these business- and policy-oriented research strands to the microeconomic foundations of informational asymmetries and market failures. Traditionally, such gaps
are seen as due to the fact that traditional business data are not appropriate for rural and inner-city
settings. Canonical models tend to be most reliable in information-rich suburban markets. Most
larger department and grocery store chains locational criteria are well suited to such settings but
have a history of missing emerging markets. Wal-Marts early entry into rural communities previously deemed too small for such stores was perhaps the most significant evolution in retailing in
the last two decades of the 20th century.
Yet many businesses still shy away from alternative market settings, given the often poor fit of
standard business models. Given generally sufficient opportunities in established markets, businesses will continue to avoid the greater risk of alternative market options, where risk reflects a
probabilistic assessment of uncertain potential outcomes. This avoidance creates a continued lack
of information in these bypassed markets, whether through model adjustments or simply records
of project successes and failures.
New market proponents tout the advantages of inner-city and rural areas as locations harboring
overlooked but potentially profitable business opportunities, reflecting both the saturation of suburban markets and the undiscovered potential of underserved places. These initiatives point to the
noted low factor prices, underserved demand, and centrality of these areas as offering strong comparative advantages to more established business sites (e.g., Porter, 1997). The success of telemarketing centers in the rural Midwest and retail shops in southside Chicago have been shown as
examples of such efforts. Yet information on any particular market and its prospects is by definition

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Scorsone, Weiler / NEW MARKETS

thin, given these areas isolation from the mainstream market, creating an imposing informational
hurdle to increased economic activity.
The lack of private sector transactions is the principal source of information gaps in new markets areas. The volume of information itself can determine the economic performance of a local
economy. Business investment decisions, especially regarding expansion or creation of new firms,
require information about local economic conditions. This information may include labor market
conditions, government regulations and taxes, market-demand conditions, potential and current
competition, and simple experience in the advantages and pitfalls of local business operation. Yet
there are likely to be considerable information asymmetries between markets, given a varying volume of transactions. Quite simply, there is more information on thick markets than on thin ones.
Based on classic and recent literature on the economics of information, the following discussion
sequentially develops the case that informational asymmetries help explain differences in regional
economic performance. First, we assess the implications of imperfect information on traditional
welfare-maximizing equilibria. In general, imperfect information creates significant market failures, thus severing the usual link between competitive markets and welfare maximization. Given
this potential problem, our next step was to evaluate the likelihood of imperfect information, which
we found to be pervasive. Finally, we consider the varying geography of imperfect information,
completing the case for the role of informational asymmetries in explaining regional differences in
economic success.
The Implications of Imperfect Information
for Traditional Welfare Maximization
The Arrow-Debreu model represents the formal mathematical representation of Adam Smiths
invisible hand proposition (Stiglitz, 2000). It is the basis for determining the nature of market failures that may be corrected by government intervention. This proposition claims that it is each individuals self-interest that leads to ensuring that public welfare objectives are achieved. In this case,
given the distribution of resources, everyone is as well off as could be expected. No one can in fact
be made better off without harming someone else, which effectively summarizes the first fundamental theorem of welfare economics. If the conditions of the Arrow-Debreu model are not met,
such as technological externalities or the existence of public goods, government intervention is
assumed to be available to correct these market failures.
The Arrow-Debreu model posits that market failures, under the conditions that the model
imposes, are the exception rather than the rule. Market failures occur only under certain specific
circumstances. However, all of the attention paid to market failures may have missed the point. In
fact, the new information economics literature has established that market failures are pervasive.
The Arrow-Debreu general equilibrium model and the subsequent welfare economic theorems are
not robust with regard to information assumptions. Small changes in assumptions about the use
and availability of information can lead to dramatically different results regarding competition,
prices, and market failures. In fact, one may view the Arrow-Debreu model results as defining the
narrow, improbable circumstances under which a perfectly competitive equilibrium and its
welfare-maximizing properties may be established.
The Greenwald-Stiglitz (1986) (the latter sharing in the 2001 Economics Nobel Prize for his
work on information economics) theorem represents the most general statement arising from the
economics of information literature. The theorem develops the argument that when imperfect
information exists (almost always), markets are not constrained Pareto efficient. In economies
with imperfect information, even pecuniary externalities have real welfare consequences. Traditionally, these pecuniary externalities were ignored because economists saw one persons or
groups loss through market activity as anothers gain, resulting in no net welfare loss. However,
with imperfect information, this result does not hold. For example, the fact that insurance firms can
only partially screen high-risk from low-risk applicants implies that low-risk applicants are
penalized by higher premiums.
In the likelihood of imperfect information, the results of the marketplace are not constrained
Pareto efficient. However, the ability of the government to improve on the situation by inducing

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ECONOMIC DEVELOPMENT QUARTERLY / August 2004

Pareto-improving exchanges depends on the volume and quality of information available (Stiglitz,
2000). These results change the nature of analysis and can justify government intervention in the
market. In some cases, the government may be unable to improve on the market outcome because
of information constraints. In general, however, the ability of the public sector to better absorb and
spread sunk informational costs is likely to lead to positive informational roles for government
entities, as in providing general public statistics.
The Likelihood of Imperfect Information

The economics of
information literature
points to three forces that
influence the likelihood
of imperfect
information[:] . . .
nonrivalrous
consumption, high
upfront fixed costs, and
the inability to prevent
information revelation.

Given the noted impact of imperfect information on economic welfare, a further concern is the
likelihood of imperfect information. Information is classified as imperfect when buyers and sellers
do not have all the information about the good or service being transacted. Imperfect information
may be due to the costliness of collecting information, the inherent nature of the transaction, or
deliberate attempts by one or another party to withhold information. A number of features about
information as an economic good make it particularly susceptible to being incomplete from either
the buyers or sellers standpoint.
If incomplete information is rare, its existence may be overlooked, with little consequent
impacts on welfare. However, imperfect information is likely to be widespread, particularly given
the incentives facing economic actors. The economics of information literature points to three
forces that influence the likelihood of imperfect information. These forces are nonrivalrous consumption, high up-front fixed costs, and the inability to prevent information revelation. When
present in combination, these forces create a series of uniquely difficult challenges to the functioning of the marketplace. We will argue that these forces are particularly likely in thin market settings, thus making the challenge of imperfect information similarly likely in these areas.
Information is generally a public good. It is nonrivalrous in that many parties can use it simultaneously, and excludability is difficult, particularly when projects require collaboration among various parties. Thus, private parties have no interest or incentive to invest in information collection
and analysis individually because its benefits can and generally will be enjoyed by others who bore
no investment costs. This situation underlines the rationale for the public provision of a variety of
economic statistics. Thin markets are particularly nonrivalrous by definition, as the few local market agents can easily know about and use the same information.
Yet even among public or near-public goods, information has other features that make it even
more idiosyncratic. First, it is generally characterized by high fixed costs and low or zero marginal
costs. The initial collection and synthesis involved in creating information is costly. The degree of
costliness depends on the size and scope of the information to be collected and analyzed. Furthermore, these high fixed costs are usually sunk costs. It is difficult to recoup information-related
costs after they are incurred. Information is specific to a certain place, time, person, group, or other
characteristics. Information about the midsize car market in Brazil is of little or no use in regard to
the over-the-counter prescription drug market in Thailand. For information sellers, information
collection and distribution, to be profitable, require either a high price or a large volume of transactions because of high up-front fixed costs.
Consistently reliable provision of information could lead to some incentive for private sector
funding based on reputation, such as has been garnered by Dun & Bradstreet, Lexis-Nexis, and
others. However, these efforts have focused on narrow niches of particular markets that were
already fairly thick. In more isolated thin markets that defy traditional niches, reputation may be
more difficult to leverage into consistent private sector funding. Given the lower number of transactions in these markets, each project or locality may be especially unique, thus changing both the
audience and perceived potential reliability of results in other settings.
A standard falling average-cost curve summarizes the distinctive characteristics of regionally
oriented information and the impact of fixed information costs. As with any decreasing-cost good
or service, the level of fixed cost determines the starting point of the average-cost graph. As the volume or number of business transactions increases, the per-unit cost of information falls, reflected
in the falling average cost. Unless the benefits from thin market projects are much higher than those

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Scorsone, Weiler / NEW MARKETS

from thick market projects, the cost of information will reduce the number of projects that pass the
private benefit-cost test in thin market regions.
Buyers and users of information also face several difficulties. Business investors typically seek
information that will enable them to project the probability of success for an investment. Thin markets that entail few existing business transactions or successful business models imply a potentially higher downside risk factor. At the same time, resource allocation decisions by a firm may
reveal competitive intent or other valuable business intelligence, as thin markets provide very little
cover to guard against undesired information revelation. Thus, investors face multiple risks that
may hamper even an investment in information assessment.
In general, if information collection and distribution incur costs, the information will not be
completely provided. Some information will simply be either too expensive or of little benefit to
decision makers. However, if this were the only condition, competitive market behavior would
exist, and there would be no room for an explanation of economic performance differences
between regions. Stigler (1961) emphasized that if information has a cost, it will simply be provided like any other market good. That is, it will be provided until the marginal benefits and costs
are equal; private and social net benefits will be equal, and there will be no market failure problem.
The likelihood of imperfect information is addressed by another facet of the economics of information literature. Grossman and Stiglitz (1980) developed a theorem concerning the degree of
information produced in a market. In fact, they show that information concerning a market is subject to an equilibrium amount of disequilibrium. In other words, in equilibrium, the market will
not supply all possible information. Only that information will be produced in which the benefits
of information collection exceed the costs. Unlike Stigler (1961), however, Grossman and Stiglitz
reveal that this equilibrium is likely to result in market failures, particularly in low volume markets.
Some information that would be socially beneficial is not produced because of the lack of private
incentives.
Grossman and Stiglitzs (1980) rationale for this result is that the decision to allocate resources
in one way or another reveals information held by private agents. If the amount of white noise in the
environment is sufficiently low, resource decisions perfectly reveal information held by economic
agents. Revealing information by making a resource allocation decision may be more costly than
the benefits derived from the decision itself, as followers may free ride on the information revelation (Weiler, 2000b). In essence, thin markets produce disincentives for producing or collecting
information. On the other hand, thick markets, with many transactions, produce large amounts of
cover and will not easily reveal information held by agents. These markets thus provide incentives
for private information collection. In a thin market, if information has any cost, it will likely not be
produced at all.
Both the Greenwald and Stiglitz (1986) and Grossman and Stiglitz (1980) theorems establish
the case that imperfect information is harmful to socially beneficial market outcomes and that the
likelihood of imperfect information is significant. Under these circumstances, a market failure
exists. Beneficial transactions would be forgone that could have been undertaken.
Imperfect Information
and the Geography of Adverse Selection
If information is in general imperfect, and such imperfections lead to systematic market failures, a key issue is whether the degree of imperfect information varies across places. If so, informational asymmetry may be an alternative or complementary explanation for economic differences
between regions.
Thin market economies are more likely to encounter problems of information provision. These
economies experience lower degrees of sales and purchasing information, housing transactions,
labor market exchanges, and so forth. Given the degree of fixed costs in producing information, no
immediate private substitute exists for the information that these transactions provide. Thin markets are likely to produce less information than do thick markets. Information is almost entirely a
fixed cost, in which accuracy increases with more data points. In thin markets, fewer data points

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307

If information is in
general imperfect, and
such imperfections lead
to systematic market
failures, a key issue is
whether the degree of
imperfect information
varies across places.

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ECONOMIC DEVELOPMENT QUARTERLY / August 2004

due to fewer transactions means less incentive for producing information relative to thick markets.
This is similar to the notion in statistics that the variability of a measurement is related to the
amount of data or information collected. Smaller samples or data sets are more likely to be
described by a higher variance.
Thick markets generally have lower average costs of information but develop a higher level of
accuracy. In that sense, information has considerable economies of scale and strong increasing
returns. This result reinforces the likely divergence between established and marginal markets.
Capital and labor will tend toward areas where average information costs are low and payoffs and
risks are subsequently more transparent. Such tendencies will reinforce the informational advantage of thick markets by further reducing informational costs.
The thinness of marginal markets suggests a unique geographic form of adverse selection, with
the risk regarding lemons in thin markets being particularly high (Akerlof, 1970). In his classic
informational asymmetry article that was the basis for his 2001 Nobel Prize, George Akerlof
(1970) described the adverse selection problem by using the example of the used-car market. Buyers cannot distinguish good cars from lemons until well after the sale. Therefore, buyers expected
value of any given used car will be a probability-weighted average of good car value and lemon
value, which will obviously be lower than the value of a known good car. However, sellers of good
cars, who know the value of their cars, will be unwilling to part with them at such a discount. Therefore, lemons will be prevalent on the used-car market, with bad cars effectively driving good cars
out of the market.
Such adverse selection problems have direct analogies in the market for business investments in
neglected geographic areas. Cars in markets with few transactions will have higher variances of
perceived quality, reducing the bid for their average vehicle. The market, in turn, has little incentive
to produce any more than lemons. Similarly, potential projects in markets with few existing transactions will have higher variances of perceived quality, reducing the bids by potential investors
(Weiler, Hoag, & Fan, 2003). Identical projects will effectively be discounted in thin markets
because of higher perceived market variance. Therefore, good projects will have no incentive to
emerge in such markets, entrenching a cycle of weak projects, low transaction volume, and economic stagnation.
In this way, even good projects in marginal regions may lack the necessary incentive to make a
case to the wider capital markets, which may consciously ignore such areas because of poor information (Stiglitz & Weiss, 1981). Although opportunities in thin markets may actually be of considerable quality, poor comparative information on related ventures in such areas implies that such
projects will face adverse selection through no inherent weakness of their own. It is the thin market
itself that hinders such projects, not the projects themselves; thin markets discourage good projects, ensuring that these markets will remain thin.
The impact of these combined information-based market failures is likely to affect both private
and public investment strategies. Private capital actively seeks out the best return, given a risk profile, but thin markets uncertain returns in high-risk areas make private investment unlikely. First
movers are required to test the sidewalks of potential development areas but are particularly
unlikely in these settings (Weiler, 2000b). There are few clear indications of market viability and
necessary threshold sizes, which further impede private capital. The constituencies of thin rural
and inner-city markets tend to carry less political weight and may have difficulties securing public
resources. Even in cases where public resources are devoted to struggling areas, poor information
on prospects can lead to failed projects and further worsening of already weak reputations.
As noted in related work, information is not the sole hurdle for inner-city development prospects (Weiler, Hoag, et al., 2003), as crime, infrastructure, and other broader problems lead to
investor reluctance to consider inner-city potential. However, information gaps in thin markets are
likely to be both sizable and pernicious, yet they can be directly bridged to clarify privately and
socially beneficial entrepreneurship. Concerns regarding issues such as crime and infrastructure
are themselves often based on poor information, which can again be addressed directly for specific
sites and prospects.

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PATH DEPENDENCIES, REGIONAL

ECONOMIC DEVELOPMENT, AND PUBLIC POLICY
The preceding discussion highlights the fact that remote rural and inner-city new markets, often
suffering from economic neglect, also suffer from thin markets and lack of information. Without
information provision, the private market will create a logical yet inefficient cycle of neglect and
marginalization, which is likely to continually obscure economic opportunities that may produce
both private profit and improvements in social welfare. Most path dependencies are considered in
the interregional context. Yet informational asymmetries between thin and thick markets suggest
that stagnation will persist alongside growth, even in the same region.
Thin markets themselves indirectly create the market failure by not providing sufficient transactions from which private production of high fixed-cost information is viable. The first-best solution to such a market failure is addressing it directly, namely, to focus information provision on
those areas where information is lacking. Information provision by the public sector directly
addresses the market failure by illuminating the potential that is hidden by the informationmasking effects of a thin transaction market. Improved information can lead to more precise perceptions of both private and public decision makers, reducing risky variance and clarifying actual
project returns. A benevolent cycle of increased transactions, improved information, and economic dynamism can thus ensue.
Informations public-good character makes private provision of such information unlikely, particularly in high average-cost new markets, suggesting a dual efficiency and equity role for the
public sector. Traditionally, those two goals involve politically sensitive trade-offs for public agencies, but information provision for thin markets can promote improved market efficiency while
addressing regional inequities. Furthermore, a natural public/private partnership can emerge, with
the public sector providing the informational public good for the private sectors entrepreneurs.
In fact, small-scale local entrepreneurs are likely to be most effective in creating the cycle of
transactions in niche new markets because they are likely to have the intangible knowledge of local
demand and resources to best succeed in initial business efforts. Yet these are also the agents who
are likely to be most constrained by the information gaps sketched in this article because they have
the fewest resources to support even the most fundamental and crucial analyses in untested marketplaces. The high fixed-cost nature of such informational analysis makes precisely the type of entrepreneur who is most likely to create a benevolent cycle of local transactions the least likely to be
able to initiate them. This situation creates unusually likely path dependencies in intraregional
contexts, as we will explore next.
Urban Economies and Path Dependency
The classic metropolitan region may, in fact, harbor areas with widely varying longer term economic development prospects. High-income areas are often within a single boulevards breadth of
struggling high-poverty neighborhoods. In explaining potential intraregional differences in housing markets, Lang and Nakamura (1993) showed how path-dependent stagnation can occur in thin
markets due to imperfect information. For mortgage loans, information on properties actual value
is crucial to financing purchases. A low number of transactions in a stagnating market implies poor
information and high variance of potential appraisals. Therefore, financing institutions will be less
likely to provide loans to these markets, creating a cycle of neglect and marginalization in neighborhood niches that may be directly adjacent to thriving housing markets. The greatest efficiency
and welfare gains are derived from increased lending activity in thin markets, which they suggest
as a benchmark in prioritizing public resource use.
Yet the original low number of transactions themselves suggests that information will remain
limited, private investment will remain unlikely, and stagnation will continue. Meanwhile, nearby
suburban markets are thriving, with plentiful transactions reducing risk and thus fueling further
growth. It could be argued that new suburban development is similarly risky to inner-city areas,

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309

. . . remote rural and

inner-city new markets,
often suffering from
economic neglect, also
suffer from thin markets
and lack of information.
Without information
provision, the private
market will create a
logical yet inefficient
cycle of neglect and
marginalization, which
is likely to continually
obscure economic
opportunities.

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ECONOMIC DEVELOPMENT QUARTERLY / August 2004

but retail or residential development amidst typical suburban demographics is better proven than
parallel projects in inner-city areas.
Weiler (2000b) considered the problems of first movers in such a context. In a game theoretic
setting, the same lack of transactions considered by Nakamura and Lang create a risk to pioneering
a new area. Critical pioneering in a new inner-city area is shown to be unlikely, given the thin market risks that permeate the areas cracked sidewalks and vacant buildings. In weighing the benefits
and costs of moving first, potential investors find it optimal to wait for others to enter, then free ride
on the information revelation by the hypothetical pioneer. However, because it is in all prospective
investors best interest to wait, no pioneering investment will occur in this thin market, leading to
the well-documented persistent stagnation of inner-city areas.
In a similar vein, Weiler, Silverstein, et al. (2003) surveyed the prospects for inner-city retail
development in Denver, Colorado, where struggling neighborhoods are a geographic intraregional
doughnut between a successfully revived central business district and the fast-growing suburbs.
The university-based analysis suggests that potentially profitable prospects are being neglected
because of considerable informational difficulties in ascertaining project viability. Such constraints are particularly high for smaller scale entrepreneurs, who are precisely those most well
suited to the market niches of inner-city areas. Nevertheless, profitable niches do exist in such
areas, and such projects social returns are likely to be exceptionally high, given the local slack in
both land and labor markets. Colorado State University provided objective information on local
market prospects, which, in turn, were used by a wide variety of private and public sector entities.
Rural Economies and Path Dependency

Rural areas face often

more pernicious
informational isolation,
given their greater
physical isolation and
limited comparability
with other regions.

Rural areas face often more pernicious informational isolation, given their greater physical isolation and limited comparability with other regions. Henderson (2002) showed that entrepreneurship is least likely in those rural regions most distant from metropolitan areas. Weiler (2000a) and
Weiler, Scorsone, and Pullman (2000) examined the rural south-central region of Colorado, which
harbors considerable quality and productivity in malt barley, the raw material for brewing, and
locational advantages for value-added processing. However, a lack of information on the profitable
link between the two sectors kept private investors from such a project until its potential was underlined through a viability analysis by the states land-grant university. The project is now being
developed with entirely private monies.
Another example of the impact of information failure on intraregional path dependency comes
from the central Appalachian Mountains. This part of Appalachia remains persistently poor
despite economic advances by northern and southern Appalachia. Physical infrastructure and
human capital investments have not stemmed the tide of neglect and poverty in the region. In many
cases, central Appalachian communities have actually experienced further economic decline relative to the rest of the nation. It may be that the interaction of information investments and human
and physical investments are complementary.
A limited number of central Appalachian communities in Kentucky, particularly those that are
part of the federal empowerment zone process, are experiencing rapid population and employment
growth despite starting as among the poorest counties in the nation (Scorsone, 2002). These communities, although far from urban regions, are nestled together with many of their brethren Appalachian counties. Access to federal grants, federal financial incentives, and a local planning and
marketing process, in particular, have changed the character of many of these communities.
Investors and analysts seeking out information on business prospects in the region face a dearth
of data. Property records, market research, and other sources of business data are widely lacking in
the region. Furthermore, there is little incentive to collect such data. Not only are the costs likely to
be large due to a lack of legal, market-based transactions, but the threat of revealing competitive
advantage from information investments is also prevalent. A successful business in the region will
likely be given enormous attention and reveal the source of competitive advantage, hard obtained
through market research and data collection. Lack of information and thin markets reinforce the
cycle of economic neglect in the region.

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The federal empowerment zones have helped spark new economic life in some communities.
Publicly funded information investments have played a role in these economic changes. Web sites,
conferences, university research, and other sources of information have been a key in attracting
and sustaining new business in the region. Businesses, both local and external, have become more
aware of opportunities in these communities. The combination of increased awareness and financial incentives finally seems to have tipped the balance for these places. But the financial incentives
in and of themselves do not appear to have been sufficient to induce development.
The empowerment zone model, of which the Kentucky Highlands Empowerment Zone is one
example, underscores the role for government in economic development through multiple interventions anchored by information provisions. In the case of the Kentucky Highlands Empowerment Zone, providing information via public and private highlighting, risk sharing, and public
funding incentives have created an environment for substantial economic growth.
Empowerment zones rely on multiple programs to assist urban and rural communities. Government grant preferences, targeted financial subsidies, information provision, community involvement and planning, and infrastructure all play a role in these programs. There are four key
components to this model. First, the federal government requires communities to engage in collective action and organization to submit a proposal, demonstrate local partnerships, and create a
structure for administering the program. Second, federal government resources, directed and
guided by local efforts, are used to encourage business and public investment in key local priorities. Third, these incentives and programs are designed to shift firm perceptions about the potential
profitability of investments in these regions. Finally, financial incentives are used to provide actual
changes in firms benefit-cost calculations.
The assessment of an investment is not strictly confined to information about a particular site,
but also to sites nearby. In some cases, this is because the businesss customer base is local. In other
cases, the business workforce and other inputs must be provided locally or regionally. Information
takes on a more contextual nature. This interdependence among business investments in a particular locality implies a potential form of path dependence for the economic prospects of subregions.
Similar in vein to adverse selection, bad investments, or in this case, bad or poor information,
drives out good information and good investments. A region can become trapped in a cycle where
lack of investment and information creates an inherent bias against other, potentially profitable,
investments.
CONCLUSIONS
Three frameworks from classic and recent information economics literature were used to construct the case for the role of information asymmetry in economic development, particularly
related to the idea of new markets. Greenwald and Stiglitz (1986) laid out the idea that imperfect
information, even in small amounts, leads to a breakdown of competitive market structure and the
creation of market failures. The Grossman and Stiglitz (1980) framework stated that the likelihood
of imperfect information is high. It is particularly likely in places that have a low volume of business transactions. Finally, Akerlofs (1970) adverse selection concept highlighted the differing
geographical impact of potentially severe cases of market failure in low-performing, thin-market
economies. Taken together, these ideas point to a potential role for the public sector, such as
through government specialists and universities, in overcoming information failures as a cause of
economic stagnation and decline.
New market initiatives target profitable entrepreneurial prospects in otherwise neglected innercity and rural areas. Many such initiatives are likely to be only narrowly profitable. Yet private
profits can and do flow from such efforts and are directed toward both the proprietors and employees in the struggling area itself, generating additional local community benefits. Nevertheless, the
low volume of transactions, the limited information on local prospects, and the associated higher
perceived risk of new market projects make the process of generating investor and entrepreneurial
interest difficult. If such interest can be developed, private profits and even more substantial social
returns to a slack resource community can be achieved.

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A key missing link is information. New markets face a peculiarly geographic form of adverse
selection, where thin local business activity leads to substantial outsider discounting of local
opportunities. In effect, the local market yields precious few useful data points. Narrowly profitable projects will be particularly hurt, such as those noted in the inner-city retail sector. Yet such
shops are precisely those that are most likely to harness slack local entrepreneurial and labor
resources while also closing spending leakages from the community.
In fact, the very firms that are most likely to benefit from new market niches, and information on
such niches, are small start-up firms. These firms face the most difficult financial challenge in bearing the up-front cost of assessing thin markets. And even if they are able to undertake such information investments, the likelihood of improper and highly variable assessment of market potential is
great. Therefore, a focus on creating and disseminating market information specifically tailored to
potential small-scale entrepreneurs is likely to simultaneously address those most affected by the
gap and support those most likely to create the transactions that eventually can bridge the gap
through market means. Natural public/private partnerships can thus emerge, in which each sector
focuses on its comparative advantage: The public sector provides the informational public good,
which the private sector can translate into entrepreneurship.
It could be argued that information provision as a regional economic development strategy may
simply be justifying particular private sector projects. However, pursuing an information investment strategy may be less vulnerable to this criticism than most other economic development
approaches. An investment in information creates an option value; the project may or may not
move forward. Traditional economic development strategies, on the other hand, may not allow for
a reversal of investment after a decision to move forward is made. Furthermore, the focus on information investment in thin markets creates greater clarity of market prospects across all potential
projects, whether favored or not. Finally, information investments that include a social benefit-cost
analysis help clarify whether the project is both privately and socially beneficial. Although the
danger of investing in a pile of pork can never be completely removed, information investments
are less susceptible to such pitfalls than are other strategies.
Because the lack of information on the private profits and social returns of thin market projects
is a major hurdle in sparking socially beneficial entrepreneurship, the public sector can directly
address this market failure by especially thick information provision in otherwise thin markets.
Information provision has the unusual ability to promote both market efficiency and equity, as
struggling marginal regions, by their nature, are those that are being inefficiently neglected by the
capital market (Weiler et al., 2000). Although public resource use has its own pitfalls (e.g., Bates,
2002), properly focused new market information initiatives can nevertheless promote both economic efficiency and equity by highlighting neglected business opportunities alongside slack
resources, potentially yielding both private profits and significant social returns.
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