Governments Don’t Have Magic Wands To Ward off Asymmetric Information

Economics and the larger debate over the economy are filled with various bogeymen: fears and concepts that are either intellectually empty or that at least vastly overstate their case. Some oft-repeated examples include worries over government indebtedness, fears that out-of-control inflation is around the corner, and externalities: that overproduction (under-provision) of certain goods occur because some costs (benefits) are borne by agents not privy to the individual transaction. 

All of these really hold much less sway over real-world events than most commentators, left and right, seem to believe. 

To this list we might add “Asymmetric information” – this arcane principle invoked as the reason for poor outcomes in all kinds of settings: labor relations, consumer choice, bank lending, financial markets and, most perniciously, health care provision.

Anyone taking a few economics classes or arguing with the market failure crowd have encountered the asymmetry-of-information argument. Because sellers have more information about the goods and services they provide compared to the (usually) uninformed buyer, the latter overpays and the former extract unjustified profits. Market failure: Bring forth the awesome power of well-informed governments!

With the “asymmetric information” argument, the left got a seemingly bulletproof theory with which to whack markets and subject them to government regulation: capitalists prey on the uninformed consumer and extract unfair rents from them in the informational version of haves that take advantage of have-nots. If not remedied, beneficial exchange disappears. 

Key word: seemingly. Because when you think one step further, the fact that a buyer has less information than sellers about a product or its production process is the natural flipside of division of labor. Had I, as a buyer, known exactly where to cheaply source ingredients for bread, how to cost-effectively and at scale bake great bread and could instantly inspect its quality, I would not need the baker; I would be the baker.

The very definition of specialization is to focus your efforts and knowledge into producing things you are – comparatively speaking – better at producing, and outsource the rest to others. By default, then, these others will know more about everything they produce just as you will know more about the specialized things you produce. 

There’s nothing weird or imperfect about “asymmetric information:” it’s what we expect from large-scale markets and indeed the natural state of human affairs, as cognitive scientists Steven Sloman and Philip Fernbach explain in their book The Knowledge Illusion: Why We Never Think Alone. In the limit, the asymmetric information bogeyman is a denial of specialization, a call for autarky, a distrust of markets so deep that they must cease to exist. 

For health care specifically, the topic is believed to be worse than in other sectors, making government-provided universal health care even more incumbent upon us humane central planners to implement. 

In 1963 the would-be Nobel Laureate Kenneth Arrow wrote an insanely influential article titled ‘Uncertainty and the Welfare Economics of Medical Care,’ laying out the case for market failures in health care. The healthcare relationship between seller and buyer, Arrow argued, was not like the routine asymmetric information we find in bakeries, but much more profound. The patient, knowing neither what is wrong with him nor what treatments are most suited to his ills, is at the complete mercy of the doctor. With bread or other repeat-consumables, a consumer could have a bite and discover that the bread was of poor quality, demand another loaf or simply switch bakers the next time he’s hungry. 

As consumers of health care don’t know what’s good for them, they can’t make the informed choices that markets allegedly need for competition to be socially beneficial. In a hospital the feedback mechanisms we take for granted elsewhere are mostly hidden (especially for more serious health afflictions), and even if they were not, patients rarely have the same treatments twice, effectively limiting competition. 

Making matters worse, as medical expenses such as heart surgery or cancer treatments are complicated and expensive procedures, regular market structures to deal with similar small-chance events of high costs – insurance – won’t work as the insurer can’t readily verify the treatment’s use and value. They quickly fall into the death spiral of insurance companies that all economics textbooks describe. Left to their own devices, the argument goes, markets will stop providing medical care to those most in need of it: Capitalism, writes Princeton professors Anne Case and Angus Deaton, “cannot provide healthcare in a socially tolerable way.”

The asymmetric information bogeyman was strange and unsuited when Arrow wrote that paper. The chapter should have been closed in 2001 when George Akerlof shared the Nobel Prize with Joe Stiglitz and Michael Spence – the former for popularly showing the Lemons Problem and the latter two for showing how markets already solve them through screening and signaling. One difference between these other sectors and health care is that we allow market mechanisms to regulate production: ratings that provide information, warranties and third-party assessors allowing for competition. 

It is wholly unclear that doctors have informational advantages over me in ways that other professions don’t have – think of car mechanics, therapists, plumbers, fund managers, construction companies, taxi drivers, meat butchers, restaurant staff and virtually every other profession under the sun. If these sectors can manage to circumvent their asymmetric information problem, why couldn’t health care professionals do the same?

What’s even worse is the blatant disregard for public choice economists’ standard objection: even supposing there is a problem, can governments really do better?

Identifying a failure of a market outcome to approximate some theoretical ideal does not constitute evidence that (fallible) political action can somehow solve it. If there is an intrinsic problem in information gathering and information revealing in the setting between a patient and a medical provider that markets for some reason cannot solve, it makes zero sense to stipulate that we can all get together in mass elections, appoint some grandstanding politician to assemble a council of experts who then in turn can solve the information gathering problem that started our market critique. From where would the politician get his or her information? What made the very same individuals ignorant as patients but supremely knowledgeable as voters? If the information problem could have been solved by assembling that council of experts, why haven’t concerned citizens already done so?

Letting markets operate results in knowledge of the few regulating the beneficial outcomes for the many. And we accept that there will be quacks and some people will on occasion be suboptimally treated. Notice how that’s no different than in today’s heavily regulated and governmentally-licensed field of medicine: doctors making poor decisions, driven by ideology or money or stupidity, have not been relegated to the dustbins of history. 

It’s correct that I don’t know what treatment is best for me, if I really need this or that drug or CT scan or if the doctor is merely adding more services to increase his sales and thicken his commissions. I face the exact same problem when there’s a red light on my dashboard or red numbers in my investment account. Why health economists from Kenneth Arrow to Anne Case have supposed otherwise is beyond me.

The kind of reasoning that underpins the tired old asymmetric information bogeyman in health care falls straight into the behavioral symmetry between market participants and policy makers that is a core contribution of modern public choice economics: it is not believable to submit that governments have magic wands.

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