<p>The problem you are facing has probably both: <strong>Moral Hazard and Adverse Selection</strong>.</p>

<p>We have <strong>hidden action</strong> by the doctor (you can't really observe his level of effort during the surgery), therefore we have Moral Hazard.</p>

<p>Additionally, you (probably) can not know beforehand of the doctor is a good or bad doctor, so his type (good or bad) is unknown. So, there is <strong>hidden information</strong> and therefore possibly Adverse Selection.
One example could be that a good doctor would never work for the amount you pay, so the doctor you hire is of the bad type.</p>

<p><em>Remark: I did not define good/bad doctor here, as it could be many different things; a bad doctor could just be a lazy doctor or a badly trained doctor.</em></p>

CC BY-SA 3.0
2015-05-02T12:17:23.557Z
But you can observe the ex-post outcome, which correlates with the hidden action. As long as agents get a noisy signal, I don't think there is a moral hazard problem in a repeated game.
FooBar
CC BY-SA 3.0
2015-05-02T12:39:02.563Z
@FooBar so in this case shd it be moral hazard or adverse selection?
UnusualSkill
CC BY-SA 3.0
2015-05-02T12:39:15.820Z
@The Almighty Bob
UnusualSkill
CC BY-SA 3.0
2015-05-02T12:43:25.267Z
@FooBar I don't see how the game here is repeated. And imho it is possible to have moral hazard with a noisy signal, depending on the rest of the model.
The Almighty Bob
CC BY-SA 3.0
2015-05-02T12:44:41.820Z
@UnusualSkill Both.
The Almighty Bob
CC BY-SA 3.0
2015-05-02T13:23:59.340Z
@TheAlmightyBob As long as knowledge spreads between you and other customers, there is an element of repeatedness.
FooBar
CC BY-SA 3.0
2015-05-02T13:42:50.150Z
@FooBar, I guess what's on your mind is repeated deletion of dominated strategies?
Metta World Peace
CC BY-SA 3.0
2015-05-02T14:35:51.917Z
@FooBar Maybe, but I think, given the question, we can ignore that here. And, as far as I remember, not having moral hazard is the result of a very "strange" setting (something like infinitely repeated + no discount or something like that). It is certainly not true for most models.
The Almighty Bob
CC BY-SA 3.0
2015-05-02T11:42:51.407Z
2015-05-04T07:52:58.160Z
2015-05-04T07:52:58.160Z
The Almighty Bob
<p>I pay the doctor before he conducts the surgery.</p>

<p>Can anyone explain to me whether this statement shows moral hazard or adverse selection?</p>

CC BY-SA 3.0
2015-05-02T08:28:54.270Z
It's rational to work less harder, after you got a long term employment. So it's moral hazard.
Metta World Peace
CC BY-SA 3.0
2015-05-02T08:31:00.577Z
@MettaWorldPeace How about paying doctor before the surgery? what is the possible explanation?
UnusualSkill
CC BY-SA 3.0
2015-05-02T08:38:42.687Z
You can't observe doctor's effort ex ante, so it's rational for a doctor to work at a level of effort that doesn't deserve his payment. You expect this, so you want to pay less. The doctor respond by shirking even more. This non-ending vicious cycle is adverse selection.
Metta World Peace
CC BY-SA 3.0
2015-05-02T08:42:59.507Z
@MettaWorldPeace Why cant I say it is a moral hazard since after paying the doctor, doctor(informed party) knows more about my condition and so may charge me more by recommending unnecessary procedures?
UnusualSkill
CC BY-SA 3.0
2015-05-02T08:44:28.723Z
@MettaWorldPeace and ur explanation:  "it's rational for a doctor to work at a level of effort that doesn't deserve his payment."<<would it be more inclined towards moral hazard?
UnusualSkill
CC BY-SA 3.0
2015-05-02T08:51:18.423Z
You're right. You can link it to private information as you did. But private information is to adverse selection what hidden action is to moral hazard. My logic is not very sound, I think of doctor is selling his service of different effort level.
Metta World Peace
CC BY-SA 3.0
2015-05-02T11:06:35.337Z
To expand on Metta World Peace's comment:
The answer depends on your model. Are there two types of doctors (honest and crooked) who put in effort accordingly (this is not a choice, it is determined by their work ethic), or is there only one type of doctor who decides his level of effort based on payment?
In the first case you might have adverse selection, in the second you would have moral hazard.
Giskard
CC BY-SA 3.0
2015-05-02T11:32:39.837Z
@MettaWorldPeace But this would be true for any service that is not required on a continuous basis. I think the solution is typically a repeated game, with some likelihood of the news of your "bad service" spreading around.
FooBar
CC BY-SA 3.0
2015-05-02T13:45:40.383Z
@denesp, Thank you for clarification. My first reaction to this question is to find a straightforward analogy to insurance market, or lemon market.
Metta World Peace
CC BY-SA 3.0
2015-05-02T20:31:04.503Z
@denesp, A comment on your comment. It seems to me we can still see it as the same model but with different solution concepts. Your first view can be formulated in Aumann's correlated equilibrium. A type of player specifies what he choose. The second accords with Nash equibrium.
Metta World Peace
CC BY-SA 3.0
2015-05-02T21:18:56.233Z
@MettaWorldPeace I am not sure what corr. equilibrium has to do with this. I think the strategy space is different is just different in the two models. I think we should discuss this in chat but I could not figure out how that works.
Giskard
<microeconomics><game-theory><asymmetric-information>
Moral Hazard or Adverse Selection?
UnusualSkill
# Moral Hazard or Adverse Selection?

(Asked by: username_0 on 2015-05-02)

I pay the doctor before he conducts the surgery.

Can anyone explain to me whether this statement shows moral hazard or adverse selection?

**Tags:** microeconomics, game-theory, asymmetric-information
> **Comments:**
> **username_1**: It's rational to work less harder, after you got a long term employment. So it's moral hazard.  
> **username_0**: @MettaWorldPeace How about paying doctor before the surgery? what is the possible explanation?  
> **username_1**: You can't observe doctor's effort ex ante, so it's rational for a doctor to work at a level of effort that doesn't deserve his payment. You expect this, so you want to pay less. The doctor respond by shirking even more. This non-ending vicious cycle is adverse selection.  
> **username_0**: @MettaWorldPeace Why cant I say it is a moral hazard since after paying the doctor, doctor(informed party) knows more about my condition and so may charge me more by recommending unnecessary procedures?  
> **username_0**: @MettaWorldPeace and ur explanation:  "it's rational for a doctor to work at a level of effort that doesn't deserve his payment."<<would it be more inclined towards moral hazard?  
> **username_1**: You're right. You can link it to private information as you did. But private information is to adverse selection what hidden action is to moral hazard. My logic is not very sound, I think of doctor is selling his service of different effort level.  
> **username_2**: To expand on Metta World Peace's comment: The answer depends on your model. Are there two types of doctors (honest and crooked) who put in effort accordingly (this is not a choice, it is determined by their work ethic), or is there only one type of doctor who decides his level of effort based on payment? In the first case you might have adverse selection, in the second you would have moral hazard.  
> **username_3**: @MettaWorldPeace But this would be true for any service that is not required on a continuous basis. I think the solution is typically a repeated game, with some likelihood of the news of your "bad service" spreading around.  
> **username_1**: @denesp, Thank you for clarification. My first reaction to this question is to find a straightforward analogy to insurance market, or lemon market.  
> **username_1**: @denesp, A comment on your comment. It seems to me we can still see it as the same model but with different solution concepts. Your first view can be formulated in Aumann's correlated equilibrium. A type of player specifies what he choose. The second accords with Nash equibrium.  
> **username_2**: @MettaWorldPeace I am not sure what corr. equilibrium has to do with this. I think the strategy space is different is just different in the two models. I think we should discuss this in chat but I could not figure out how that works.  

---

## 1 answers

### Answer by username_4 on 2015-05-02. Score: 8 | Accepted answer

The problem you are facing has probably both: **Moral Hazard and Adverse Selection**.

We have **hidden action** by the doctor (you can't really observe his level of effort during the surgery), therefore we have Moral Hazard.

Additionally, you (probably) can not know beforehand of the doctor is a good or bad doctor, so his type (good or bad) is unknown. So, there is **hidden information** and therefore possibly Adverse Selection.
One example could be that a good doctor would never work for the amount you pay, so the doctor you hire is of the bad type.

*Remark: I did not define good/bad doctor here, as it could be many different things; a bad doctor could just be a lazy doctor or a badly trained doctor.*

> **Comments:**
> **username_3**: But you can observe the ex-post outcome, which correlates with the hidden action. As long as agents get a noisy signal, I don't think there is a moral hazard problem in a repeated game.  
> **username_0**: @FooBar so in this case shd it be moral hazard or adverse selection?  
> **username_0**: @The Almighty Bob  
> **username_4**: @FooBar I don't see how the game here is repeated. And imho it is possible to have moral hazard with a noisy signal, depending on the rest of the model.  
> **username_4**: @UnusualSkill Both.  
> **username_3**: @TheAlmightyBob As long as knowledge spreads between you and other customers, there is an element of repeatedness.  
> **username_1**: @FooBar, I guess what's on your mind is repeated deletion of dominated strategies?  
> **username_4**: @FooBar Maybe, but I think, given the question, we can ignore that here. And, as far as I remember, not having moral hazard is the result of a very "strange" setting (something like infinitely repeated + no discount or something like that). It is certainly not true for most models.  

---

