
Uncertainty and Imperfect Information in Markets
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only and it will exist (the seller promises to fix any problem she diagnoses as L at price
L
).
The remaining case when
p
c
is
efficiency dictates that only the more severe problem be treated. The previous logic
continues to apply: for the seller to have an incentive to make an honest diagnosis,
. Here, given no market for fixing less severe problems, m
L
= 0; hence, effi-
ciency is achievable only if p
H
= c
H
. In other words, in this case, the seller announces
she won’t fix L problems, but will fix H problems at cost, c
H
. In this case, the incentive
problem is so severe that it results in ...