INTERPRETING AND MANIPULATING INFORMATION

Devices for manipulating information

1. Signaling: players will choose actions that promote favourable leakage.

2. Signal jamming: players will act in ways that reduce or eliminate unfavourable leakage.
3. Screening: set up a situation where a person would find it optimal to take one action if the
information were of one kind, and another action if it were of another kind.
4. Signals: actions that are intended to convey a player’s private information to other players.
For a signal to be a credible carrier of a specific item of information, it must be the case that
the action is optimal for the player to take if, but only if, he has that specific information.

Countersignaling

In some circumstances, the best way to signal your ability or type is by not signaling at all. We
have ways to figure out people’s types besides what they signal. The very fact that they are
signaling is a signal that they are trying to differentiate themselves from some other type that
cannot afford to make the same signal. Sometimes, the most powerful signal you can send it that
you do not need a signal.

3.1
GAMES WITH INCOMPLETE INFORMATION (ADVERSE SELECTION,
MORAL HAZARD)
 … move games with incomplete information are good for modelling a situation in
which one party benefits from the other party not being able to observe the first
party’s action (Moral Hazard)
 … move games with incomplete information are good for modelling various kinds of
uncertainty about characteristics of other players (Adverse selection)

Moral Hazard Adverse Selection

The game has three stages:
 First, principal chooses a wage for the
agent;
 Second, agent chooses effort level:
High or Low
 Third, Nature “chooses” the profit
(observable by principal). Profit
depends not only on effort level, but
also on some random event
Examples:
Agriculture – a farmer’s output depends on
 Time and effort the farmer puts in his
land
 The weather conditions
 Adverse selection refers to a process
where high quality products/services
are driven out of the market
 The price of goods depends on its
quality (whose owner has information
advantage)

Example:
Used car market “lemon market”
 Owners know the quality of the own
car, but buyers cannot distinguish
between lemons and peaches
How can the problem be solved? Signalling or
Company quoted on stock exchange – the stock screening
value depends on
 Time and effort the CEO puts in the
company
 Sentiment on the stock market

How can the problem be solved?

SIMPLE MODEL OF MORAL HAZARD

EXAMPLES:

Equilibrium path:

B
OOK CHAPTER 8-13

Screening Signaling
Is an action taken by an uninformed person to
determine the information