Asymmetric information refers to a state where market players have different levels of information about each other's valuations of the market. As such, their information is asymmetric, or asymmetrically distributed.

In classical economic theory, information is assumed to be complete and evenly distributed among market players: each player knows how the other players value the items being traded in the market. This simplifies the analysis of the market because the players' actions will be certain and predictable. Market outcomes (prices and quantities) can then be easily calculated.

Asymmetric information can be used as a source of power in determining the outcome of the transaction. As a consequence, the market will not achieve allocative efficiency.

"A high degree of asymmetric information can create conditions under which voluntary or market-based transactions become infeasible" (Kelkar and Shah 2019:19)

Impact

• These differences are the underlying causes of Adverse Selection.
• A second kind of information asymmetry lies in the Hidden Action, wherein one party's actions are not observable by the counterparty to the contract.
• Hidden characteristics are things that one side of a transaction knows about itself that the other side would like to know but does not

Reference

"The Market for Lemons: Quality Uncertainty and the Market Mechanism"^[1] is a 1970 paper by the economist George Akerlof which examines how the quality of goods traded in a market can degrade in the presence of information asymmetry between buyers and sellers, leaving only "lemons" behind.

Akerlof, Michael Spence and Joseph Stiglitz jointly received the Nobel Memorial Prize in Economic Sciences in 2001 for their research related to asymmetric information.

Games of Asymmetric Information arise when one or more agents in a strategic situation possess better information about a random event than the other agents.