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Randomization with Asymmetric Information

Stiglitz, Joseph E.; Arnott, Richard J.

It is by now well known that, in the presence of moral hazard or adverse selection, randomization of insurance premiums and benefits may be Pareto efficient. This article provides a typology of the various forms that randomization may take, derives necessary or sufficient conditions for the desirability of these various forms of randomization, obtains some simple characterization theorems of the efficient random policies, gives some intuition behind the results, and considers why randomization appears to occur less often in practice than the theory suggests it should.

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RAND Journal of Economics

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Economics
Published Here
April 24, 2013