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Privacy and Information Acquisition in Competitive Markets

Abstract

Personal privacy is studied in the context of a competitive product (or labor) market. Firms initially post prices (or wages) they promise to charge (or pay) individuals whose applications are ultimately approved. Contracts are incomplete because the amount of information firms acquire about applicants cannot be observed. When information acquisition corresponds to searching for bad news, firms search too hard in equilibrium. Consumers can ameliorate this by demanding inefficiently small levels of output. If economic characteristics differ across groups of applicants and price discrimination is prohibited, then members of the high-risk group are subjected to more scrutiny and suffer disproportionately high rejection rates. When information acquisition corresponds to searching for good news, firms acquire too little information about their applicants in equilibrium. Finally, if rejected applicants remain in the market and continue to apply to dfferent firms, then the resulting adverse selection may be so severe that all parties would be better off if no information was collected at all.

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