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Perfect Information

Updated on May 9, 2024
Article byShrestha Ghosal
Edited byAshish Kumar Srivastav
Reviewed byDheeraj Vaidya, CFA, FRM

What Is Perfect Information?

Perfect Information is a feature of the perfect competition market structure. In this scenario, all the market participants, which includes the buyers and sellers, have complete and accurate knowledge about the market. It also suggests that there is no uncertainty in the market and the participants are capable of making well-informed decisions.

Perfect Information

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This information suggests that every market participant is entirely and perfectly informed about the product characteristics, selling prices, expenses, and profitability of all the businesses and consumers. It implies that there are no inconsistencies, asymmetric information, or knowledge barriers in the marketplace.

Key Takeaways

  • Perfect information is achieved when the buyers, sellers, and all other market participants are capable of making fully knowledgeable decisions.
  • Additionally, it implies that there is no ambiguity in the market and that the market participants have access to all the information that is necessary to make an informed choice.
  • It is a feature of the perfect competition market system and is also known as no hidden information.
  • However, a significant issue with this scenario is that it demands time and effort to obtain perfect knowledge about the market, which may not always be feasible.

Perfect Information In Economics Explained

Perfect information takes place when individuals in the economy are able to make fully informed decisions. In economics, it is a characteristic of the perfect competition market structure and is also referred to as no hidden information. In a market with perfect knowledge, all buyers and sellers are entirely aware of all market rates, along with their own utility and cost functions.

This knowledge allows buyers and sellers to make logical and practical judgments that take into account their preferences and financial constraints. It also reduces the likelihood of businesses exploiting market power, engaging in price discrimination, and marketing because customers can easily compare and change the products. Moreover, this information ensures that the market is economically practical, which maximizes the benefits to society.

Features

Some features of this information include the following:

  • Perfect information in perfect competition implies having every detail necessary to make the best possible choice. Economists often assume that all individuals possess this information when developing economic theories or models. However, there are several instances where they may not have perfect or even adequate information.
  • A significant problem with this information is that it requires time and effort to obtain it. Additionally, an individual may have information that they are unable or unwilling to share with others. Economists describe this as asymmetric information.
  • Furthermore, perfect information in economics suggests that people are entirely rational and always make decisions to maximize the benefit or profit. This notion fails to recognize that biases in thought, sentiments, and other non-rational elements commonly impact human behavior, where individuals often make decisions that contradict the established economic models.
  • Finally, certain things are unknown, which is known as fundamental uncertainty. Events like emerging technologies, disasters, economic crises, and global conflicts can occur unexpectedly and have a significant impact on the economy.

Examples

Let us study the following examples to understand this information:

Example #1

Let us assume that Amy is a customer who went to the market to buy some clothes. She is an aware consumer who has complete knowledge of the products that she wants to buy. Amy knows the prevailing market prices of the dresses, the fabric being used to make the dresses, and how to test the quality of the dresses. As a result, the seller will not be able to quote her a price that is significantly higher than the standard market price. This is an example of perfect information.

Example #2

Suppose Jake wanted to buy a diamond necklace for his mother. However, he does not have adequate knowledge about diamonds. So, Jake asked his friend Sam to accompany him to the store as Sam had sufficient knowledge about diamonds. He is fully aware of the price of diamonds per carat, their colors, sizes, and cuts, and how he has to test them for their originality. As a result, the shopkeepers would not be able to cheat Jake.

Importance

Perfect information in economics is essential for decision-making in any market structure, job market, and capital market. Consumers require accurate information to be able to obtain the maximum benefit from using a product. A consumer may not always have complete information about quality products and might not consume the appropriate quantity. Under-consumption of the value product results in market failure.

Additionally, the customer may be unaware of the adverse consequences of substandard products, and this leads to over-consumption. This is a type of market failure, which is known as the over-consumption of inferior goods. As a result, if a buyer or seller lacks adequate knowledge, they will make a decision based on partial information. It may result in an inefficient market outcome, which might result in market failure.

Moreover, perfect information in perfect competition indicates that both businesses and consumers are price takers. This suggests that they have no control over the market price and accept it as is. Businesses cannot charge a higher price than the market price because customers will shift to other sellers offering the same item at a lower cost. Consumers cannot pay less than the prevailing market price because sellers would decline to sell at a price lesser than the marginal cost of production.

Perfect Information vs Imperfect Information

The differences between the two are as follows:

Perfect Information

  • This situation occurs when all the market participants have complete and correct information about the market.
  • It takes place in a perfectly competitive market. This scenario rarely exists in real-world situations.
  • The sellers and buyers have accurate knowledge about the products and resource market. The transaction risks in this information are low because the customers make a well-informed decision based on complete information.

Imperfect Information

  • Imperfect information occurs when either the buyer or the seller lacks complete information.
  • This information may take place in an oligopoly, monopoly, and monopolistic competition. It is commonly found in all other market structures except perfect competition.
  • The market participants do not have complete knowledge about the products and resource market. The transaction risk is high because the consumer is not capable of making an efficient decision due to a lack of complete information.

Frequently Asked Questions (FAQs)

Is perfect information realistic?

The assumption of this information is often criticized as it does not reflect the real-world scenario and is unrealistic in the decision-making process. The assumption serves as the basis of various economic models, especially in the neoclassical economics domain. However, it lacks realism and is rarely applicable to real-world circumstances. Since information in the real world is usually challenging to acquire, incomplete, and inaccurate, perfect knowledge is not a feasible scenario. Moreover, it does not take into account the concept of uncertainty in decision-making.

How do we calculate the expected value of perfect information?

The Expected Value of Perfect Information or EVPI is the monetary profit individuals can expect to earn if they know the result of a probabilistic situation with certainty. This measure is the extra profit earned by knowing the result. It can be calculated by using the general formula of profit earned from perfect knowledge x probability of that particular outcome.

When should we use the expected value of perfect information?

The Expected Value of Perfect Information offers a criterion that enables individuals to recognize ordinary, imperfectly informed predictors. This method can be employed to reject expensive proposals.

Can the expected value of perfect information be negative?

This value is always greater than or equal to the value of Expected Monetary Value or EMV. As a result, the value of EVPI can never be negative.

This article has been a guide to what is Perfect Information. Here, we explain its features, comparisons with imperfect information, examples, and importance. You may also find some useful articles here –

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