I don’t claim here that all trades you get to do are bad. I claim that they’re worse than they might naively seem without accounting for adverse selection, i.e. for the fact that your opportunity to get something depends on nobody else wanting it (as in the case of the subway seat or the parking spot) or somebody else actively wanting the other side of the trade (as in the case of the zero-sum bedroom selection or the juggling contest).
I’m surprised that these are exotic scenarios to you. I regularly take the subway. I might not be understanding the relevance of subways as an example of “government failure,” but I’ll rephrase the example without needing to invoke a government resource:
1. The Restaurant Seat: You’re in a food court at dinnertime. Almost all of the restaurants are full to the brim, and don’t have any tables available, but you notice one that is entirely empty. You’ll be able to get a table! You enter the restaurant, order your food, and take a bite. The food is mediocre.
Bad restaurants are more likely to have open tables than good restaurants. Alice’s Restaurant and Bob’s Burgers might look identical to you from the outside, but if all the tables at Alice’s Restaurant are full and the tables at Bob’s Burgers are open, that’s evidence that Alice’s Restaurant is better quality—and you’d rather eat there. Unfortunately for you, all the tables there are full, so you can’t. The trades you get to do (eating at Bob’s) are worse than the ones you don’t (eating at Alice’s).
That doesn’t mean that eating at Bob’s is worse than going hungry. It might still be worth buying food there instead of not at all. But, if a week ago you had had the opportunity to make a reservation at either one (before Alice’s filled up), you would have been better off flipping a coin and reserving one at random than waiting to slot into whichever is available.
Does this help clarify the confusion? If so, I’ll edit in this example, so as to not have the government goods degrading element distract from the core idea.
In response to various comments, I’ve edited this post to change the title, clarify my fundamental thesis and some terminology choices, and provide explanations for each example. I apologize if this makes some of the existing comments confusing; for posterity, the original version is here.
The high level changes:
I changed the title from “Conditional on Getting to Trade, Your Trade Wasn’t All That Great” to “Toward a Broader Conception of Adverse Selection,” since I think the former was distracting from the substance of the piece and led to people believing I think trades cannot be positive sum. Thanks in particular to @Thomas Kwa for the gentle advice to change it.
I added in an introductory section defining adverse selection, motivating the piece, clarifying some misconceptions, and providing a roadmap for the next posts in the sequence.
I reordered the examples and added section headers. The divisions aren’t perfect, there’s overlap between them, but hopefully this adds some clarity.
Because of the reordering, some of the comments referring to examples by number might not make sense. The original numbering was:
1: The Subway Seat
2: The Juggling Contest
3: The Bedroom Allocation
4: The Thanksgiving Leftovers
5: The Wheelbarrow Auction
6: The Wheelbarrow Auction pt 2
7: The Laffy Taffys
8: The Field
9: The Parking Spot
10: MoviePass
11: Widgets Inc.
I explained each section with 1-2 sentences, and added explanations for ~all of the examples.
I added the example “Alice’s Restaurant vs Bob’s Burgers,” adapted from a comment I wrote.
I included various strategies for combating adverse selection in specific scenarios. I feel conflicted about this, since I’m worried the strategies will distract from the examples and also be redundant with a lot of the content in the second post, but I think this was the right call to help motivate why paying attention to these effects can be useful.
I changed a couple of the names
I added a few footnotes
I refuse to remove the Karl/Groucho Marx joke.