Adverse Selection
Plain definition
Adverse selection is when hidden information before a deal causes the 'wrong' side to self-select in — for example, only high-risk people buying insurance.
In economics
Akerlof's 'market for lemons' showed that when buyers cannot tell good from bad, prices reflect average quality, driving good sellers out and possibly collapsing the market. Insurance markets fight it with deductibles, medical exams, and risk pooling.
Example
If an insurer charges one price for health coverage, the healthiest people may opt out, leaving a sicker, costlier pool that forces premiums up further.
Common confusion
Adverse selection happens before the contract (hidden type), unlike moral hazard, which happens after (hidden action) — mixing these up is the most common exam error.