When sellers know their cars are lemons but buyers don't, rational buyers offer only low prices—which drives all quality sellers out of the market. This information asymmetry creates a death spiral where only the worst products remain for sale. Drag the slider to watch the market unravel as information gaps widen.
Principal-agent problems arise when agents pursue self-interest against principal interests due to information gaps. A company shareholder (principal) cannot perfectly observe whether the CEO (agent) is maximising firm value or building a personal empire. The agent has hidden information about effort levels and hidden actions that benefit themselves at the principal's expense. This asymmetry means agents can shirk, take excessive risks, or prioritise short-term bonuses over long-term sustainability. Without monitoring mechanisms or incentive alignment, the agent's interests diverge from the principal's, creating allocative inefficiency and welfare loss.