How We Buy Our Lemons.(Nobel Prize in Economics winners)(Brief Article)

Whom to trust? That question had become so hard to answer by the middle of the scam-riddled 19th century that governments began licensing doctors, writing building codes and generally laying down the broad web of rules and warranties that now underlies virtually any private bargain. More than a century later three American economists--Joseph Stiglitz, George Akerlof and Michael Spence--started to take a long, hard look inside this web, and what they discovered won them the Nobel Prize in Economics last week.

Their victory marks a mini-revolution in economics. More craft than science, economics never produces the momentous discoveries, such as cures for dread diseases, that characterize Nobel awards in the hard physical sciences. But if you care to know how the world works, care about this. What Stiglitz, 58, now at Columbia, Akerlof, 61, of the University of California, Berkeley, and Spence, 58, of Stanford, did was to re-establish the intellectual basis for activist government. Their work defied the prevailing wisdom of the '90s, when big government was seen as failing, total government--communism--had collapsed and free markets were triumphant. Economists associated with the University of Chicago's "no government is best" view had won nearly all the economic Nobel Prizes for the last dozen years.

Now comes the reversal. Stiglitz & Co. did what all good social scientists do: they observed the obvious. They argued that most consumers still know much less about the complicated products that they are buying than do the sellers. Do you, reader, really know as much about the computer you just bought as the geek who sold it? Purist free-market theory, by contrast, insists that markets are equal meetings of buyers and sellers with equal information. Hence markets are "efficient" or even "perfect" in the rhetoric of the profession. And the government should stay the hell out.

Akerlof was the first to challenge these assumptions. In a 1970 paper, "The Market for Lemons," a reference to American slang for cruddy cars, he showed that consumers have informally devised ways to offset the "asymmetry of information" between them and used-car salesmen. Most buyers lack the expertise to tell a sound auto from a lemon, so they go to dealers who guarantee their cars' soundness for a number of months. Buyers go to such dealers even though they could get identical models far more cheaply ...