Dynamic Trading in a Durable Good Market with Asymmetric Information*

We investigate the nature of market failure due to adverse selection in competitive markets for durable goods where price-taking traders have the option of waiting to trade. The framework is a dynamic version of Akerlof (1970). There is a given set of potential sellers and goods. Valuations of both buyers and sellers depend on quality and information about quality is privately held by sellers. We impose a mild consistency requirement on the beliefs of potential buyers in periods of no trading and show the existence of a dynamic equilibrium. Unlike the static model, in every equilibrium of the dynamic model, goods of all qualities are traded in finite time. The price mechanism sorts sellers of different qualities into different times periods prices and average quality of goods traded increase over time. Market failure manifests itself in the fact that sellers wait in order to trade and sellers of higher quality goods wait longer. If agents are sufficiently patient, the equilibrium path may be characterized by intermediate breaks in trading.