Three Americans will collect the Nobel Prize in economics for their work on the theory of asymmetric information. The new laureates--George Akerlof of the University of California, Berkeley, Michael Spence of Stanford University, and Joseph Stiglitz of Columbia University--elucidated how markets work when one side knows something the other side doesn't. Such research offers insight on diverse phenomena, ranging from the payment of dividends to shareholders to the menu of health care options offered by insurance companies.
In "The Market for Lemons," a 1970 essay that the Nobel prize committee calls "the single most important study in the literature on economics of information," Akerlof took the example of used cars to analyze a problem called "adverse selection." The problem is that bad products drive out good ones because a buyer can't discriminate between the two (until it's too late). A more recent case involves information technology, in which unprofitable IT "lemons" dominated the market until the companies went bankrupt; investors lost millions.
Spence followed Akerlof's work by demonstrating how well-informed individuals can "signal" their information to others. A university degree, for example, signals an employer that an individual is likelier than not to be a good worker because they made it through college (though, of course, there's no guarantee).
Stiglitz examined the flip side of this scenario: how an uninformed party such as an insurance company can elicit information through economic incentives--that is, by offering a variety of options, such as high premium/low deductible vs. low premium/high deductible auto insurance, which in effect differentiate between high- and low-risk insurance categories. This theory is all the more pertinent for health care in the age of genomics, notes Princeton University economist Michael Rothschild, because individuals may be better able to predict their future medical needs than the companies competing to insure them.
Colleagues of the three newest Nobelists endorse the Swedish Academy's choice. Of the theory of asymmetric information, Rothschild says: "It's part of the canon of economic theory." And now, certain to remain so.