By Chris | November 12, 2007
In the comments section of Asymmetric Information: Car Trouble, laura notes that:
“…the extra money they [mechanics] charge may be a reasonable part of return of the work they did for getting the information we do not have”
She makes a valid point that mechanics need to be compensated for their knowledge of car problems. It takes time and experience to be able to diagnosis the problem when a vehicle breaks down. It is standard for the diagnosis of a car’s problems along with an estimate for repairs to be free. The knowledge necessary to make the diagnosis is subsidized by the repair work.
Why is work done this way? Doctors don’t offer free check-ups and recover the cost of their time from the surgeries they recommend. My guess is that diagnosing a car’s problem has a very low marginal cost. Mechanics already own diagnostic tools and it is usually quite easy to recognize that a part is not working properly. Similarly, the recommended course of action is almost always straightforward: replace the part.
This is not true when it comes to health care. Often diagnosing a medical condition is the most difficult and crucial aspect of care. Doctors cannot tell my grandmother why she experiences spells of dizziness nor can they explain why my mom occasionally feels tingling in her toes. The hit television drama House provides a glimpse of how baffling some conditions can be to even the smartest medical minds. The human body is vastly more complex and interrelated than any automobile. It’s a lot harder to replace someone’s lungs then the air filter in their car. Moreover, numerous treatment options exist.
When a problem and its solution are relatively straightforward, producers will offer free quotes and consumers should generally choose the low-cost provider. Lasik eye surgery fits under this category and it has become significantly cheaper in the face of competition. When a problem and its possible solution is more complex, it makes sense to pay the producer for specific advice and avoid conflicts of interest. Most people do this already. It is why we have long-term relationships with our auto-mechanic and ask our car enthusiast friend for advice. It is why we pay a specialist for his opinion, and seek out experts with reputations they wish to keep. Obtaining information about the intricacies of an automobile or a human body is costly. When you pay for this information, it is crucial to provide the right incentives.
This is not always easy to do. As laura noted in her comment, the book Freakonomics discusses how real-estate agents have an incentive to sell your house at too low of a price. Tyler Cowen describes another example in his latest book and on his blog when he recounts hiring a guide while traveling in Morocco:
“The guides don’t cost much up front (“I am your friend. I love United States. I show you for free. Very good friend. No charge nothing.”), but at the end of the day they ask you for money. I don’t just mean ask, I mean beg, plead, cajole, and finally, if need be, demand. Avoiding this spectacle — humiliating to both parties — is itself worth at least twenty dollars. In the meantime the guides bring you around to merchants of their choosing, and receive kickbacks on anything you buy. So don’t expect the guide to do your bidding or to bring you where you want to go.”